The Dollar After U.S. Presidential Elections

August 11, 2008

U.S. Treasury Secretary Paulson served notice today that he will not stay in that post in the next administration even if the Republican Party retains control of the White House.  Many of the calendar years that followed a presidential election have seen important turning points in the dollar.  Volatility in such years is not sheer coincidence.  The executive branch’s attitude toward the currency is an important factor in its behavior, and major macroeconomic initiatives tend to occur early in presidential terms.

In 1973, the dollar devalued three weeks after the second Nixon inaugural, and fixed dollar parities were severed in March.  By early July, the dollar had declined 24% to DEM 2.20 from DEM 2.90.

The dollar was trading at DEM 2.4058 when Carter was sworn in on January 20, 1977.  It fell 11.7% within a year and 20% to DEM 1.703 by end-October 1978.  The yen was at 176 per dollar by then, 100 yen stronger than it had been at end-July 1976.

Between Reagan’s first inaugural and August 10, 1981, a period of less than seven months, the dollar soared 28.3% against the mark and 17.5% relative to the yen.  It was propelled higher by a much more stimulative fiscal policy and equally restrictive monetary policy.

The dollar was still in a bull market when Reagan took the oath to begin a second term, but he had a different Treasury Secretary with a different attitude about the virtues of unconstrained dollar appreciation.  After advancing another 9.3% in the first five weeks of the second term, dollar/mark crested at its post-1971 high of 3.477.  By end-1985, the dollar was trading 29% below that peak and had also dropped 23% against the yen.  G5 officials in September 1985 met at the Plaza Hotel in New York and announced to the world an agreement to promote a weaker dollar.

The Republicans retained the presidency in 1988 but with a new standard-bearer.  Under Bush41, the dollar at first rose 10.5% to DEM 2.0405 between January 20, 1989 and June 15th but then lost 17% over the rest of the year in the start of an extended period of weakness.

Clinton’s first Treasury Secretary, Lloyd Bentsen, and trade czar, Mickey Kantor, played hard-ball in trade talks with Japan and used dollar depreciation as a policy tool to extract concessions in that regard.  The dollar fell 19% against the yen between the inaugural on January 20, 1993 and August 17, 1993.

By 1997, Robert Rubin was Clinton’s Treasury Secretary, and the Administration had converted to the religion of currency strength.  The dollar rose almost 18% against the mark between January 20th and August 6th, and it had advanced 12% against the yen by mid-December.

The dollar got off to good starts in both terms of the Bush43 presidency.  From January 20, 2001 to peaks that summer, it rose by 10.5% against the euro and 8% against the yen, against the backdrop of expansionary fiscal plans and despite a economic recession and rapidly falling interest rates.  The 9-11 attacks aborted that uptrend.  The dollar has mostly declined since 2002, except in 2005 when the second Bush term began.  Dollar lows were set at the end of 2004, and between the inaugural on January 20th and mid-November of 2005, the U.S. currency climbed by 11% against the euro and 16% against the yen.

The early years of floating dollar rates saw the dollar under selling pressure at the start of 5 of the first 6 presidential elections, with the extreme circumstances of the first Reagan term being the only exception.  More recently, the dollar has performed generally well in such years.  The 2008 election pits two opponents with no ties to the incumbent administration.  How rare is that?  I believe it’s the first time since the election of 1920, so its fair to say that U.S. dollar policy will be run by novices next year, a recipe for volatility.  The risk is that mistakes will be made, putting the dollar on the back foot.  But a weak dollar in 2008 goes against the prevailing current thinking that the dollar may be now embarking on a multi-year period of strength.  My problem with that, as explained in my August 8th Foreign Exchange Insights posting, is that the basis for the recent dollar upswing has been cyclical, which by definition tends to be a self-limiting force. In order for the U.S. imbalances to be worked down, it will be necessary to rotate growth away from domestic demand and toward net exports.  To sustain this transformation, an extended appreciation of the dollar would prove counter-productive.  A stronger dollar at end-2008 than at end-2007, on the other hand, would establish levels from which it will be more plausible for dollar weakness to emerge in the early days of the next administration.



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