The Death-Defying Dollar

BERKELEY The blogosphere is abuzz with reports of the dollar’s looming demise. The greenback has fallen against the euro by nearly 15% since the beginning of the summer. Central banks have reportedly slowed their accumulation of dollars in favor of other currencies. One sensational if undocumented story has the Gulf States conspiring with China, Russia, Japan, and France – now there’s an odd coalition for you – to shift the pricing of oil away from dollars.

Economists have no trouble explaining the dollar’s weakness after the fact. With American households saving more in order to rebuild their retirement accounts, the country has to export more. A weaker dollar is needed to make American goods more attractive to foreign consumers.

Moreover, disenchantment with the sophisticated instruments that American financial institutions specialize in originating and distributing means more limited foreign capital flows into the United States. Fewer foreign purchases of US assets again imply a weaker dollar. Extrapolating the past into the future, forecasters predict that the dollar will decline further.

The first thing to say about this is that one should be skeptical about economists’ predictions, especially those concerning the near term. Our models are, to put it bluntly, useless for predicting currency movements over a few weeks or months.