If you live in the US, you may have noticed that your dollar has depreciated compared to other currencies. Americans are used to having a strong dollar and this situation seems to be fading away since the big credit crunch of 2008. Why doesn’t the Government do anything to put back the greenback on track? Because sometimes, being weak is better than being strong!
Why is the US dollar so weak?
The relative strength of a currency is first linked to a country’s finance. Try looking at the country as a person. If you open his Microsoft Money, you will see that the US Government has a few problems with his balance sheet.
First, there are credit problems: banks are still struggling with several foreclosures while many Americans are wondering if they would be better off turning in the keys to the family home instead of continuing to pay this huge mortgage for a house worth far less than its debt.
Second, the US government injected an incredible amount of money into its economy. Most economic stats are currently boosted by this help. Therefore, we all know that the true economy is still in a hospital bed.
Third, investors in general are still riddled with fear instigated by the US economy. This is probably why the greenback is so weak. Global investors fear that the recession is not over and that more bad news is yet to surface. This is why they are less tempted to invest their money in the US market.
It’s not all that bad though…
As I mentioned in my title, there are a few reasons why a weak dollar could help the US economy:
Reduce the risk of deflation
When the economy goes bust, consumers generally reduce their spending and interest rates go down as well. This is when prices stabilize or even decrease for certain goods (since the demand for them has dropped, if you still want to sell something, you have to drop your price). This is what we call deflation. If the price of goods drop, salaries will do the same thing and the economy won’t grow. You can see that it’s not the perfect scenario.
However, if you are stuck in the middle of a recession and your currency drops in value, things that you import will be higher in price. This won’t help consumers but it will help to maintain prices higher so the economy can start up again.
If importing costs more, obviously exporting your goods will be more beneficial for countries with stronger currencies (they get more for their buck!). In turn, this will stimulate US industries to produce goods at a “lower” cost and will generate more profit (in US dollar). This is how jobs on American soil can be saved.
Productivity at its best
Americans are well known for their efficiency and productivity. During rough time, companies cut down on expenses and demand more from their employees. This is often when we see the highest productivity gains; when you solicit your brain, you often get marvellous results ;-).
So the US dollar weakness is temporary but will still serve the economic growth on a short term basis. This is why I don’t expect the Fed to make any moves to help the greenback in 2010…