'The Politics Behind the U.S. Dollar'
Source News for Social Justice Action
Date 05/03/10/00:03

The Politics Behind the U.S. Dollar
by Todd Stein & Steven McIntyre

Tuesday, March 8, 2005 -- The condition of the U.S. dollar is perhaps one
of the least thoroughly reported on topics in the press today. Sure, you
will read the daily article rehashing a load of ambiguous language uttered
by some central banker or government official. And you may even come
across the occasional news story of how a particular currency's movement
has affected an industry such as tourism or textiles. But what you will
never read about is the vicious clandestine battle being waged by various
governments and interest groups around the world.

Because the U.S. dollar acts as the world's reserve currency, any sudden
drop or rise in its value creates winners and losers. And if the status
quo (in terms of the dollar's value) is achieved, yet another list of
winners and losers is produced. This is why politicians and government
officials would prefer to downplay the issue altogether -- no need to make
new enemies. That being said, the dollar's drop over the last few years is
slowly creeping into the national debate. What is fascinating about the
topic of the dollar is how the issue cuts across party & international
lines and creates a series of strange alliances.

While farmers, manufacturing companies and exporters have traditionally
lobbied for a weak dollar, labor unions have started to echo this sentiment
as they see manufacturing jobs shifted to less developed
nations. Politicians in textile-producing districts have been quite vocal
when it comes to the issue of China revaluing their currency. The theory
is that a stronger yuan (ergo a weaker dollar) will make the environment
between Chinese laborers and American factory workers more
competitive. However, this argument is flawed because anything short of a
six-sigma re-valuation would do nothing more than make a tiny dent in
China's competitive advantage, where labor costs run at a fraction of the
cost of the U.S. work force. Moreover, the Chinese government does not
want to see its unemployment rate shoot up, especially since there are so
many unemployed migrants as it is. So the bottom line is that the Chinese
Communist Party will continue tolerating commodity price inflation (a
s a result of its artificially low dollar peg) rather than face waves of
angry unemployed citizens.

Aligned with the anti-weak-dollar Chinese are the Europeans, importers such
as Wal-Mart, and creditors including large money center banks. Any dollar
depreciation against Asian currencies means higher prices for Wal-Mart,
which would hurt sales and margins. Continued dollar depreciation against
the euro makes European exports less competitive. Hearing a European
government official complain about the dollar is more common today than
ever. Finally, the large money center banks on Wall Street are
overwhelmingly in favor of a strong dollar. These banks are creditors, and
the last thing they would like to see are their loans being paid back in
weaker dollars. More importantly, a dollar crisis would spell trouble for
U.S. assets including corporate bonds and equities. And any softening of
demand for Wall Street's securities must be avoided at all costs in their eyes.

One last constituency who has a major stake in the future of the dollar is
the average Joe Six Pack. But his position is contradictory. On one hand,
being the over-consumer that he is, Joe loves a strong dollar because he
can buy his plasma screen television at a good price. And because the
strong-dollar environment has created low interest rates over the last
decade, Joe can finance his new purchase at rock-bottom rates. On the
other hand, Joe is in debt up to his eyeballs and doesn't know how he'll
ever be able to pay off his credit cards. Dollar weakness would help
inflate Joe's debt away over the coming years with minimal pain.

So who will win and who will lose?

Warren Buffett, one of our investing heroes, has just come out with his
most recent annual letter, devoting more than two full pages to warning his
readers about America's alarming trade deficit. He points out that the
"force-feeding of American wealth to the rest of the world is now
proceeding at the rate of $1.8 billion daily", and that America's trade
policies are turning it into a future "sharecropper's society". Buffet,
who blames both political parties for our current situation, has made a
large bet against the U.S. dollar ($21.4 billion in foreign exchange
contracts at year-end, spread among 12 different currencies). It's hard to
argue with a man who has $40 billion reasons to think he is right. Over
the long run, we agree that absent large changes in trade policies, the
U.S. dollar is toast.
_ _ _

The Texas Hedge Report is a market newsletter that highlights under- and
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