Exposing a Myth About Long-Term Growth Expectations and the Dollar

February 8, 2010

Faster growth in the United States than in either Euroland or Japan is hard-wired into analyst medium-term projections.  Results from a monthly survey  published in the latest issue of The Economist projects that GDP in the United States will rise 3.0% this year but just 1.4% in Euroland and 1.5% in Japan.  It’s only early February, so hard GDP data for even the first quarter is still lacking.  These forecasts fall into what professionals would call medium-term expectations.  The U.S. experienced a shallower GDP decline in 2009 than Europe or Japan, so it’s reasonable to believe that growth comparisons of 2010 against 2009 will probably show more robust growth in the United States than the other regions.  But that’s only part of the story.  An examination of each February Economist survey conducted in the previous eight years, 2002 through 2009, also revealed higher predicted growth for the year of the forecast in the United States than in Europe or Japan.  In the February 2010 survey, projected U.S. growth this year is 1.6 percentage points (ppts) above projected growth in the euro area and 1.5 ppts above projected Japanese growth.  For all nine February surveys including the latest one, projected U.S. growth was on average 1.1 ppts above projected growth in the euro area and 1.6 ppts greater than projected Japanese growth.  These are significant differences.

Currency market mythology stipulates that much of the time, currency strength correlates positively with economic growth expectations.  If that conventional wisdom represented a truthful generality, one would expect the dollar to have appreciated much of the time since early 2002.  Instead, the dollar is presently 36.5% weaker than its February 2002 average level against the euro and down 33.1% against the yen.  Over an eight-year span, the dollar dropped at net annualized rates of 5.5% and 4.9% in spite of a chronic expectation that GDP would expand by at least one percentage point faster in the United States than in Euroland or Japan. Either 1) the perceived relationship between growth and currency market behavior is mistaken, or 2) analysts are constantly too bullish about growth in the United States and too bearish about growth elsewhere.  The first explanation of this riddle is more plausible than the second one.

Copyright Larry Greenberg 2010.  All rights reserved.  No secondary distribution without express permission.

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