Does America’s Presidential Choice Matter to the Dollar?
September 7, 2012
Currency traders are watching several developments, but the three matters that are drawing most attention are next week’s FOMC meeting, the U.S. presidential election campaign, and the ECB’s ramped-up defense of the euro.
The first and second of these issues are related. The election race can be a constraint on the timing of Fed reaction to America’s softer economy. The FOMC met in September 2008 less than a week after the collapse of Lehman Brothers yet elected not to cut its Federal funds target. Notwithstanding that example of hesitance, analysts believe today’s labor market figures tip the balance in favor of some kind of stimulative gesture. The 97K average monthly rise in U.S. jobs over the past half-year was the smallest 6-month pace since the half year to January 2011, and virtually all elements of the August figures were very disappointing. If the Fed does something as bold as immediately undertaking a third round of outright bond purchases, one intended result would be to soften the dollar. Alas, currency markets are subject to many pressures and may not comply.
The $64,000 question of the 2012 U.S. presidential campaign is otherwise known as the four-year-are-you-better question. It is a reprise of the theme that Ronald Reagan employed successfully to defeat Jimmy Carter 32 years ago. In the current case, the question is somewhat unfair because so much changed between September 7, 2008 and January 20, 2009 when Obama took office. GDP plunged at a 6.3% annualized rate in the second half of 2008, equity prices plunged over 29%, and 3.18 million more jobs were destroyed than created. The U.S. economic record under President Obama’s stewardship is an empirical question nonetheless, answerable by comparing current vital signs to those when he took office and expressing the results in annualized percentage change terms. The results are mixed.
- Equity holders, who didn’t panic when the DOW continued to plunge for the first six weeks of Obama’s presidency, certainly feel relieved and probably better than that. The Dow Jones Industrials Average index has climbed by an impressive 15.3% per annum in the Obama years.
- Those people relying on wage income for a living have felt continuing pain. Non-farm payroll jobs on net are down 0.2% per annum. The unemployment rate of 8.1% is 0.3 percentage points higher than in January 2009 in spite of a greatly diminished labor force due to discouraged job seekers giving up. A lack of wage growth traction has amplified the pain on households.
- Real GDP advanced 1.4% per annum, which is well below America’s old normal but close to the net expansion of 1.6% per annum during the eight years of the Bush43 presidency.
- Core consumer price inflation has been low and stable, averaging 1.7% per annum, 0.4 percentage points less than during the Bush43 years.
- The dollar had soared 24% from a record low of $1.6038 per euro to $1.2942 in the half-year before Obama became president, but on net since then it has appreciated 0.3% per annum. Only under Clinton among presidents since Nixon did the dollar on net end up stronger against the mark or euro.
- The dollar since January 20, 2009 has declined at a rate of 3.9% a year against the yen.
Eight weeks from next Tuesday, American voters get to choose between two grossly different visions of the proper roles for government, but the realpolitik of the matter is much more complicated. The ramifications will depend on the margin of victory and on the congressional and gubernatorial election results. Polarization between the Democrats and Republicans is likely to be wider than ever. Republicans have seemed very effective at stopping Obama’s agenda, but the Democrats in 2001-8 had a number of notable triumphs against Bush43. It’s especially true in politics that life is what happens while we’re making plans, so uncontrollable surprises will no doubt force mid-course corrections that investors cannot foresee from the vantage point of 2012.
Even if one knew the next president’s identity now with certainty, it isn’t clear how that knowledge affects the dollar’s most likely trajectory over the next months and 1-2 years. A case can in fact be made for a downside dollar bias in both cases. Should Obama be reelected, it’s useful to recall that second-term presidencies in America tend to be less successful than the first four years went. If the White House goes to Romney, one ought to bear in mind that institutional memory in dollar policy is poor, meaning new administrations often commit naive mistakes in dealing with markets and the press before they acquire the experience to know better. Stuff like this may matter more to the dollar from November 7 to end-2013 than the agendas that Obama and Romney are currently preaching. Whatever is done to prevent or soften the fiscal cliff will have a profound impact on U.S. growth prospects but cannot be discounted at this time. For now, energy will be spent deciphering the likely winning candidate, and the planned debates on October 3rd, 11th, and 22nd and a stream of opinion polls will provide markets with a whole new set of must-read data to follow. Such information will only be worth the time if a consistent pattern emerges between news and currency movement. More likely, the correlation will be messy.
The ECB bond buying plan has several parallels to the U.S. election. In both cases, markets may react even while details remain very fuzzy. Governments like Spain and Italy must first apply for aid packages, and their leaders are not jumping to be first in line. It is not known when this new facility begins to be used. The ECB Governing Council reserves full discretion over the what, where, when and size of the new scheme, even the right to take away what has been given because of insufficient compliance with macroeconomic obligations by the sovereign governments. It remains to be learned if pledged sterilization of the operations is done amply and, if in doing so, undermines the program’s effectiveness. Republicans and Democrats will be engaged in a game of chicken over addressing the fiscal cliff and budget reduction in general. The ECB majority has its own internal game of chicken with Germany, whose representatives can erode confidence in the OMT by what they say. If Outright Monetary Transactions manage to dissuade markets of the irreversibility of the euro, the common currency could plausibly strengthen because some of its slide from $1.6038 reflects insurance against a possible break up. But other things are not equal.
- OMT could accomplish more than convince markets of the euro’s indivisibility. Like the Fed’s quantitative easing, it may be perceived as inflationary.
- The restoration of a truly single monetary policy and single interest rate with proper transmission of ECB monetary policy is not the only prerequisite to the survival of the euro as we know it. OMT will not restore the competitiveness of peripheral members who need that to happen, nor will it create proper democratic legitimacy. Voters were never given opportunity to overwhelming endorse the outsourcing certain inalienable rights of sovereignty.
- ECB Pdt Draghi has stood firm asserting that help is conditional upon abidance with macroeconomic conditions. He has also insisted the euro will not be permitted to fall apart. He may have to renege on one of those pledges to satisfy the other.
- There are always unknown unknowns capable of changing currency market trading dynamics.
In spite of all these complications, simplifications are possible. Monetary and fiscal policymakers have enough on their plate without dealing also with severe currency volatility. It does not seem accidental that forex stability has prevailed over chaos this year, and to the extent possible, officials will try to keep it that way.
Copyright 2012, Larry Greenberg. All rights reserved. No secondary distribution without express permission.
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