Intervention Not the Only Way to Secure a Weaker Dollar
February 6, 2017
A previous blog post on this site discussed how U.S. currency market intervention might get dragged out of the forgotten monetary tools closet as a way to depreciate the dollar by the new Trump administration. Both the president and his key adviser on trade have called the dollar overvalued. The dollar has strengthened broadly since the U.S. election, nonetheless, and forces are at play that could push it even higher without resistance from policy counter-measures.
- New U.S. trade and immigration policies are likely at first to impede growth in other economies more than in the United States.
- This will promote a widening of U.S. interest rate differentials compared to rates elsewhere both at the short- and long-end of the maturity spectrum.
- So too will a more expansionary U.S. fiscal policy that cuts taxes, raises spending, and expands the federal deficit in an economy that is nearing full employment.
- U.S. financial sector deregulation and tax changes are being designed to persuade companies to repatriate funds currently held abroad.
- The European Union may be put at peril by upcoming elections in France, The Netherlands, and maybe Italy. Nationalist political groups want to leave the EU and are encouraged by the success of EU opponents in Britain.
- Inflation well below target in Japan is likely to prevent the Bank of Japan from raising interest rates for a considerable time longer.
With relative economic fundamentals unlikely to take some wind out of the dollar’s sail, it will be up to the Trump Administration to adopt a more proactive approach to weakening the dollar. It has a number of options besides directly selling U.S. dollars in the market against the yen and euro. One is to subtly suggest that such action is or may be coming, and calling the dollar overvalued is a first step down that road.
Another tactic could take the form of public criticism of the Federal Reserve. A whiff of eroding monetary policy independence is a sure way to scare investors. Elements in the Republican-controlled Congress share the new administration’s contempt for Janet Yellen and the policy pursued by her and her predecessor. Yellen’s four-year term as chair ends next January, and although her term on the Board of Governors runs beyond then, it’s unlikely she would stay on the Board under her successor. Trump could also water down Yellen’s influence on the Board by filling two vacancies on the 7-person committee or by announcing his nominee for the Chair early. Under normal conditions, his pick would not be announced until probably October.
An entirely different way to damage the dollar is to merely sustain the pace of inconsistent and provocative actions of the past two weeks in both domestic and foreign policy initiatives. Domestic opposition in the press and from street protestors will not help the dollar and will embolden the president’s constuent supporters. If the administration wins these conflicts, investor uneasiness about an entirely different and authoritarian face to U.S. government ought to depress the currency. But even if the administration is stymied in what it can do and changes unfold more slowly than it wants, the exhibition of a divided and increasingly fragile U.S. society is also likely to stunt dollar strength.
It’s generally much harder to support a currency that is falling when left exposed to market forces than to weaken one that has otherwise been strengthening. The only limit to attaining a weaker dollar is what negative side-effects the administration unwilling to accept in making the dollar softer. Put differently, how big a priority is a weaker dollar? In the short run, the answer is that this goal is probably hugely important, because other objectives like ending the trade deficit and achieving 4% growth are not going to be possible in the next year or two unless the dollar falters.
Copyright 2017, Larry Greenberg. All rights reserved. No secondary distribution without express permission.
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