Whither the Dollar?

America’s current account deficit is ballooning, making the US the world’s largest external debtor (only, of course, in absolute terms, as the US is far from the worst performer if the trade deficit is measured as a share of GDP). Yet despite huge and growing deficits, the dollar continues to soar. Although we have learned not to worry so much about falling stock markets, should we now worry about the US trade deficit and the almighty dollar? Indeed, isn’t the dollar poised to sink simply of its own bloated weight? Two things can bring the dollar down: loose talk from America’s Secretary of the Treasury, or a sharp deterioration in America’s relative economic performance compared to the rest of the world. Both risks have been tested this year. As a result, the dollar has vacillated. Both risks are now coming under control and so continuing strength for the dollar must be anticipated. There are two kinds of US Treasury Secretaries. The first are like Robert Rubin and understand that a strong dollar helps secure low interest rates and that low rates make for a long and broad boom. The other kind is found in the current US Treasury Secretary, Paul O’Neill, who think too much about competitiveness and know too little about capital markets. They like intervention, industrial cartels, target zones for currencies and the sundry other gimmicks that got a bad name back in the woeful economic era of President Jimmy Carter. Secretary of the Treasury O’Neill came into office from the world of manufacturing and so thinks like a manufacturer. But no matter how successful they were in their industry, manufacturers look at the economy from the rabbit hole up. They think a weak dollar is good for exports and a hard dollar hurts sales and market share. Hence they wince when they face a strong dollar and offer wishy-washy answers to any question concerning their policy toward the dollar. Secretary O’Neill, indeed, has been ambivalent about the dollar from day one. Instead of looking journalists firmly in the eye and pronouncing Robert Rubin’s reassuring mantra –

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