BUSH WATCH .... ...Saturday, December 11, 2004....
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Twisted In The Wind...9 of 15 Leave Bush Cabinet: John Ashcroft (Justice), Colin Powell (State), Tom Ridge (Homeland), Tommy Thompson (Health), Gregory Mankiw (Economic Adviser Chair...Reported), Stephen Friedman (Economic Council Chair), Don Evans (Commerce), Rod Paige (Ed), Spencer Abraham (Energy), Ann Veneman (Agriculture), Anthony Principi (Vets), John Danforth (UN), George Tenent (CIA), Christine Todd Whitman (EPA). Snow (Treasury), Mineta (Transportation), Norton (Interior), Jackson (Housing), and Chao (Labor) will stay.
It was not the main thing on his mind when he launched the attacks three years ago, but Osama bin Laden has played a large role in undermining the U.S. economy. The dollar's decline to record lows is partly his work.
If you haven't noticed the dollar's fall to record lows (and the rise of gold to a 16-year high), you will. The dollar is a bigger worry for economists than the rise in oil prices, though the two are related. With world oil prices denominated in dollars (for now), oil producers must raise prices to counter the dollar's slide.
Federal Reserve Chairman Alan Greenspan spooked markets last month when he admitted he had no idea how far the dollar would fall. Speculators took his speech as good reason to bid the dollar down still more, and it's now at an all-time low against the euro, having lost a third of its value since 2001 and nearly as much against the British pound.
So what, you say? Christmas is here, consumers and government are spending like mad, and Washington's deficits will balloon still more when President Bush privatizes Social Security. Not to worry. With more tax cuts coming and the never-ending Iraq war, which Bush wrongly connected to Sept. 11, we'll just charge everything.
The question economists -- even the prudent Greenspan -- ask is this: How long can we get away with the binge before something really bad happens?
The dollar falls because foreigners are inundated with them and charging more to take them. Nobody has a clue how much more they will charge. Predicting the dollar's path, Greenspan told Frankfurt bankers, is like "forecasting the outcome of a coin toss."
Making monetary policy by coin toss does not exactly inspire market confidence.
Economists are in two camps over the dollar's future, and neither camp is optimistic.
Camp 1 says the world will tolerate a sliding dollar another few years because it has no choice. America's $500 billion annual deficits will be financed by China, Japan and other Asians because they need our markets, and a collapsed dollar would wipe out U.S. purchases of their goods.
But Asian central banks already have cut back on support, which is why the dollar is falling. Still, Camp 1 believes that though Americans will face rising prices, interest rates and debt as the dollar falls, these adjustments, though painful for Americans, will be manageable.
Camp 2 sees a far more dramatic future for us, both economically and politically. One strong voice in this camp has been Paul Volcker, Greenspan's predecessor at the Federal Reserve, who sees a 75 percent chance of a dollar collapse within five years.
Under such a scenario, America under Bush would be facing worse economic problems than under Richard Nixon in the early 1970s, when exploding trade deficits, plus the Vietnam War and rising oil prices led to import and exchange controls and cut the dollar loose from gold.
The effects would be worse than under Nixon for two reasons: Because our trade deficits are larger this time, running at a record 6 percent of GDP; and because America was a net creditor in Nixon's time, whereas today it is the world's largest debtor.
Camp 2 puts our present problem in stark terms: America absorbs 75 percent of the world's savings today, that is, the savings of nations like Germany, China and Japan that run trade surpluses. One reason those nations send excess dollars back here (instead of investing in developing nations) is because a dollar collapse would mean a collapse of their currency reserves, which are held mostly in dollars. A collapse also would raise bond yields, cutting the value of their vast quantities of U.S. Treasury bonds.
With the euro, however, a new alternative to the dollar exists, and surplus countries have lately been diversifying into euros, another reason for the dollar's decline. Camp 2 economists see the dollar falling by another 40 percent or more, which would leave no sector of the U.S. economy untouched, including bond yields, inflation, consumer spending, employment and the stock market.
Beyond economics, Camp 2 sees an international political problem looming, mainly with China, with which America will run a trade deficit of some $150 billion this year (look for the "made in China" label on the bottom of your Christmas presents). That is about twice the U.S. deficit with Japan, once our largest creditor.
Trade deficits normally lead to currency adjustments, which is why the dollar is falling. China, however, pegs its yuan to the dollar, meaning that even as other Asian currencies rise (yen, won and Singapore and Taiwan dollars), the yuan is falling along with the dollar.
A falling yuan is irrational because with China's strong trade and reserve surpluses, the yuan should rise.
Stephen Roach, chief economist for Morgan Stanley, predicts that if China doesn't cut its currency away from the dollar, it risks political retaliation. The sooner China "prepares the world for a transition to a new and more flexible currency regime," he writes, "the better its chances of neutralizing geopolitical risks."
China will act in its own interests, as will other nations. How far and fast the dollar falls is out of America's hands. --posted 12.04.04
Goldsborough can be reached via e-mail at jim.goldsborough@uniontrib.com.
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