Long-Term Dollar Trend
February 26, 2009
The Bretton Woods agreement of 1944 established dollar-gold convertibility and fixed dollar parities against other major currencies that were to be defended with intervention. A deteriorating U.S. balance of payments in the 1960’s caused by heavy domestic programs and escalation of the Vietnam War was draining U.S. gold holdings and putting the fixed exchange rate international monetary system under mounting strain. Parities before President Nixon suspended dollar-gold convertibility in August 1971 were at 360 yen per dollar and 3.65 D-marks per dollar. A devaluation of the dollar in December of that year in the Smithsonian Agreement set new dollar parities at DEM 3.22 and JPY 308, but gold convertibility was not resumed. A second devaluation to DEM 2.90 and JPY 277 in February 1973 did not restore calm and the dollar was floated in 1973.
I mention all this history only in part because of increasing talk about the need to redesign the international monetary system but mainly because today is an important dollar anniversary. The strongest dollar levels against major European currencies in the floating rate era were touched twenty-four years ago today at DEM 3.478, FFR 10.63, 1.0345 per pound and CHF 2.937. Dollar/yen on February 26, 1985 was at 263. Compared to then, the dollar has depreciated at a rate of 4.0% per annum against the yen, 3.8% per annum against the Swiss franc, 3.4% per annum against the D-mark equivalent of euros, and 1.4% per annum against sterling. From pre-1971 fixed rates, the dollar has lost 2.3% per annum against the mark and 3.4% per annum against the yen. And from its opening float levels, the U.S. currencies has lost 1.8% per annum versus the mark and 2.9% per annum against the yen. However one slices it, the dollar has followed a downward trend over the past 38 years, and in fact that directional bias predates 1971 when market pressure was evident in depleting gold holdings rather than exchange rate movement.
Although no guarantee exists that past tendencies will continue in the future, the burden of proof lies with those who make the case for a prolonged uptrend. The possibility that the euro breaks up offers the most compelling case for a long-term trend reversal, and if that were to happen, the dollar’s direction against some members arguably would be different from its trend against others. Meanwhile, several factors point to a continuing long-term erosion of the dollar. One is a more stimulative monetary policy in the United States than elsewhere. Another two are the U.S. current account deficit and massive U.S. foreign debt held in Asia and by Middle Eastern oil exporters. If the world moves closer to protectionism and beggar-thy-neighbor politics, the currencies of deficit countries will be the most vulnerable. Washington’s fiscal deficit may not get reined in as successfully down the road as the Obama Administration would like, and then a temptation will grow to inflate real U.S. public and private debt away.
Copyright 2009 Larry Greenberg. All rights reserved. No secondary distribution without express permission.
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