The U.S. dollar has reached nearly record lows against the euro. Does the steady sinking of the American currency hurt the economies of Europe by making their products more expensive -- and therefore more difficult to sell -- in the United States?
Washington, 20 May 2003 (RFE/RL) -- The apparent decision by the United States to back away from its longtime support for a strong dollar raises the question of whether the administration of President George W. Bush wants to improve the American economy at the expense of Europe's.
On 18 May, U.S. Treasury Secretary John Snow told fellow finance ministers of the Group of Eight industrial nations meeting in Deauville, France, that the dollar's recent decline against the euro was "fairly modest." Snow said the value of the U.S. currency should be determined by the world market.
Yesterday, the dollar fell further, to the point where the euro was briefly worth more than $1.17, the currency's original value when it made its debut on 1 January 1999.
Economists point out that a lowering in the dollar's value could have one beneficial effect on the U.S. economy -- exports grow because American goods become less expensive in Europe.
Peter Locke, a professor of economics at George Washington University in Washington, said this should come as good news to many economists, who say the United States has for too long been suffering from what they call a "trade imbalance" -- importing more than it exports.
Locke explained that the imbalance means foreign corporations reap more profits from American consumers than do U.S. corporations. "We still have a trade imbalance, you know. So you would say that [the dollar] should fall to get rid of this imbalance. The traditional international trade theory would say that the dollar has to fall until the U.S. no longer is buying more stuff than we're selling," he said.
But in an interview with RFE/RL, Locke pointed out that the United States exports a much higher percentage of services, rather than goods, than Europeans do. Therefore, he said, merely allowing the dollar's value to decrease would not necessarily correct the trade imbalance because it is more difficult to attach a universal monetary value on a service than on a commodity.
And yet, as European imports become more expensive to American consumers, American imports become less expensive to Europeans. This could have a detrimental effect on countries like Germany, which runs a high risk of succumbing to deflation -- a persistent and eventually debilitating reduction in consumer prices. Deflation was a factor in the worldwide depression of the 1930s.
Locke said he does not believe that the U.S. administration's apparent decision not to artificially prop up the dollar's value will lead to worse economic times in Europe.
In fact, he said, it is virtually impossible for the U.S. Treasury or the Federal Reserve to prevent a devaluation of the dollar in the face of more powerful global economic forces. "Well, [the dollar's value] has to do with other economies, too. We're not in isolation. The U.S. is not in charge of the dollar any more than Thailand is in charge of the baht. There's a lot of other players out there. You can't control your own currency. It's a global economy," Locke said.
Locke does believe there are deflationary pressures in the world economy. He said they are spurred in part by phenomena that appear to be benign -- such as efficiently made electronics, which in turn contribute to higher worker productivity. Both, he said, lead to lower prices for commodities and services alike.
But Locke stressed that for the past few decades, the world economy itself has been virtually impossible for economists, governments, and central banks to understand, much less manipulate. Therefore, he said, many have been careful to adopt policies least likely to affect the economy.
He said he believes this is what is motivating the reluctance to intervene in the economy on the part of both Snow and Alan Greenspan, the chairman of the Federal Reserve Board. "Basically, people are throwing up their hands [surrendering] and saying, 'Look, this economy is changing so fast [that] it's not clear what the relationship between policy and macroeconomics is any more.' And so I think the safest road in that situation is don't do anything too drastic, and then try and figure out how the economy's reacting to the things that you're doing policy-wise. I think that's been Greenspan's response," he said.
William Niskanen agrees. He served on the White House Council of Economic Advisers under President Ronald Reagan in the 1980s and is now the chairman of the Cato Institute, a private policy-research center in Washington.
Niskanen applauds Snow's decision to let world market forces determine the value of the U.S. dollar. He said Snow is the first U.S. treasury secretary to "tell the truth" about valuing the dollar. Locke said Snow is trying to meddle as little as possible in the world economy.
As a result, Niskanen told RFE/RL, he seriously doubts that Snow will try to manipulate the value of the dollar either to avoid deflation in America or to encourage deflation in Europe. "I don't read his [Snow's] mind, but I think you attribute too much to what's happening in the government or in the treasury," he said.
Niskanen said it would be wrong to underestimate the effect of the U.S. economy on the rest of the world. But he emphasized that other, more direct influences are putting countries like Germany at what the International Monetary Fund calls a "high risk" for deflation.
Primarily, Niskanen blames Germany's risk of deflation on what he called the overly conservative fiscal policies of the European Central Bank (ECB), which traditionally has been even more strict than other central banks about preventing inflation.
And he said that while the ECB may contribute to deflation in Germany, it is powerless to combat deflation in that country once it occurs. "[The risk of deflation is] a problem that's a consequence of moderately tight behavior by the European Central Bank and the inherent characteristics of a common-currency area, the euro, in which it [the ECB] can't respond to conditions in particular countries," he said.
Niskanen noted that in the United States, the Federal Reserve Board has the authority to respond to nationwide deflation simply by issuing more money, among other tactics. At the same time, the U.S. Congress can come to the aid of an individual state that is experiencing economic hard times.
But Niskanen said the ECB cannot, under its charter, intervene if a nation in the euro-zone is experiencing deflation. And the European Parliament is not empowered to assemble an economic aid package for an individual euro-zone country.
Both Niskanen and Locke said the real solution to preventing deflation -- as well as keeping inflation in check -- is political leadership both in Europe and the United States. Locke said it is time for consumers to resume buying and for investors to take risks. But neither will act, he said, if political leaders don't first give them confidence in the future of the world economy.