Can Bush Save the Dollar's Fall?

by: Menzie Chinn posted on: March 13, 2008    

Figure 1: Log real trade weighted value of dollar against a broad basket of currencies (blue) and against major currencies (red). Note: Squares are March figures accessed on March 12. Source: Federal Reserve Board.

"Bush Would Like a Stronger Dollar" - That's the title of a post in today's WSJ RealTime Economics:

President George W. Bush said in an interview today with Nightly Business Report that the dollar's fall to record lows against the euro is not a good thing and he "absolutely" wants a stronger dollar. Excerpts:

Q: You mentioned that one of the reasons that's driving up the price of oil is the dollar. You have said that you are for a strong dollar. Do we have a strong dollar now?

Bush: We have a dollar that's adjusting, and I am for a strong dollar. One reason I am for a strong dollar is because I want, you know, people to -- I think it helps deal with inflation. And you're right, the weakening dollar has affected our capacity to be able to purchase energy. I mean, we're dependent on energy from overseas. Our dollar doesn't buy as many barrels of oil as it used to, and so therefore it's more expensive for the American people. And that's why I'm for a strong dollar; one reason.

Q: But the dollar is down against the euro, something like 45%, over the last six years. And today it hit a new low against the euro.

Bush: No, I know. And it's not - those aren't good tidings, if you're for a strong dollar like I am.

Q: Would you like a stronger dollar?

Bush: I would, absolutely. And there are certain things that we can do. We can send signals to the world that their capital is welcomed into the United States, that we'll fight off protectionism, and that we'll deal with this -- you know, the dollar was strengthened when people realized the relative strength of our economy. And one of the things people are watching carefully is, will the United States government put policy in place to stimulate growth without affecting long-term growth? In other words, without passing laws that make it harder for investment, or harder for capital to move, or harder for markets, labor markets, to remain flexible.

I think that President Bush has a good insight in focusing on long-term growth as a determinant of the dollar's path. In particular, I want to highlight the fact that the dollar's decline began before the Fed starting slashing interest rates. In Figure 2, I plot the real value of the dollar against major currencies and the US-euro area real interest differential (the interbank rate minus lagged one year inflation). Even as the US-euro area real interest differential increased in 2005-06, the dollar was declining. At that juncture, I asked: What happens when US policy rates stop rising? We know the answer now.


Figure 2: Log real trade weighted value of dollar against a basket of major currencies (blue) and nominal interbank interest rates adjusted by lagged 12-month CPI inflation (red). NBER defined recession dates shaded gray. Source: Federal Reserve Board, NBER, IMF International Financial Statistics, and author's calculations; January Euro Area HICP from ECB.

Why is the dollar declining? I think part of it is the interest rate effect (which is driven by Taylor rule fundamentals). Part of it is the portfolio balance effect (dollar denominated assets are just plain less attractive relative to a couple years ago, when some observers were waxing eloquently about deep and liquid US financial markets). But I want to stress two effects less often remarked upon.

  • Wealth effects
  • Trend GDP effects

Wealth effects: Amidst all this talk about losses being incurred, I think there is the belief that someone's gain is another persons loss. That's partly right. But I also think that perceived wealth is shrinking; as this occurs, consumption decreases. Since US consumption is biased toward US goods, this means the dollar should weaken.

In addition, while some people have hailed the fact that the Net International Investment Position [NIIP] in dollar terms has not declined as a share of US GDP over the past few years, I want to note that as the dollar has declined, US income and wealth measured in terms of what it takes to buy foreign goods has declined [0]. (Exogenous terms of trade effects including higher real oil prices also reduce net wealth).

Trend GDP effects: What's been little remarked is that anticipated trend growth, as measured by median estimates of expected 10 year growth rates, has declined from 3.3% in February 2005, to 2.75% last month (median responses from Survey of Professional Forecasters, February 2005 and February 2008). This development can be linked to the dollar's trend trajectory in two ways. First, wealth is sometimes thought of as the present discounted value of an income stream (so this is independent of the "wealth effect" insofar as there is some failure in rational expectations, or there are distributional effects). Second, a big chunk of the revision to GDP growth is due to a revision in anticipated productivity growth; this has ramifications for the real exchange rate either through the Balassa-Samuelson effect, or through some other channels (see this post).

Bottom line: The "adjusting" dollar is, of course, partly a consequence of the monetary policy that is now being implemented. But it would be wrong to ascribe all of the dollar depreciation to the Fed's policies. I'd say that -- when considering the sources of the dollar's decline -- think of what policies induced year after year current account deficits [1]; think about what policies (or failure to enforce laws) allowed the subprime mortgage debacle to occur [2]; think about what policies encouraged consumption and discouraged national saving (the sum of private saving and budget surplus) [3]. Something to consider when contemplating this quote in Bloomberg:

"The dollar looks in real trouble and there is no obvious resistance level against the euro," said Greg Gibbs, a currency strategist at ABN Amro Holding NV in Sydney. "I don't think you can pick a level for where it will stop."

This article has 19 comments! Add yours below...

Menzie Chinn

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This article has 19 comments:

  •  
    Philly Jim
    Mar 13 08:12 AM
    Cheer up everyone. Only 312 days until the worst leadership in the history of the United States of America is GONE! We have a lot of catching-up to do with the rest of the world when the idiots go back to their ranches and caves. They have kept America frozen in the 20th century. Just imagine, if we had leadership, we would have the best infrastructure, best industries, best products, best education system, best laws, etc... You know, like we had before Bush. ;)
  •  
    bhakta
    Mar 13 08:46 AM
    My Website
    Mr. Bush's comments IMHO are pathetic. The only way to make the DOLLAR strong is to stop printing more of them, make them more scare, the value goes up... Simple like A,B,C!
  •  
    dectra
    Mar 13 09:19 AM
    Philly Jim is right.

    bush has been an unmitigated disaster not only for the country at large, but he has destroyed the good will and respect that American Businesses have built up over decades.

    As a (former) supporter of the GOP, I voted loyally voted each year, even when I began to suspect they were no longer listening to the base of the party or the American public when it came to formulating a sound business model for the government. NOW bush says 'gee, I'd like a strong dollar'

    This flies in the face of 7 YEARS of weak dollar policy this administration has forced on this country. The theory bush put out was based on the thought that weak currency will improve your trade balance. This has given him a green light to spend and spend and spend (so much for fiscal conservatives). The supposed improved trade balance makes your economy appear stronger and wealthier, even though in fact it is weaker.

    The federal government borrows nearly $3 billion a day abroad just to fund our interest. Private foreign investors are unwilling to lend us that much money at current interest rates. Who's left to pick up the slack? Central Banks. In the first three quarters of 2004, fully 49% of the U.S. current account deficit was financed by foreign central banks, with Japan and China the lead lenders. Guess how much we borrow from our 'friends' in China (as of July 2007)...857 BILLION.

    I won't even consider mccain or any other GOP candidate for my vote this year. They have lied and lied again as they run off on some quixotic quest to 'remake' the middle east (and let Osama get away), spied on AMERICANS, funded other countries needs and ignored the needs of this country. All the while saying ' we know best, just let us handle it'. Of course, if you question them, they quickly brand you as a terrorist / sympathizer.

    At the root cause of the dollar free fall is this:budget deficits for SIX YEARS. No plan to reign in spending. Earmarks so crazy that you'd have to think they were a joke...but they weren't. They make the spending proposals by the democrats look sane in comparison to the drivel the white house has put out year after year.


    mccain has already publicly supported many of bush's failed policies, not to mention he's lied over and over and over about his ties to lobbyist, and is (or appears to be) in the process of Knowingly breaking campaign finance laws related to his agreement to accept public funds for his campaign.

    GOP Sucks
  •  
    Hasic
    Mar 13 10:04 AM
    Agreed, however where has Congress been? They failed to impeach him, the "preemptive strike against Iraq" and ending habeus corpus, reversing 1000 years of legal precedent, the dems are little different. It is a choice between a proven failure and a potential disaster. Voting for a politician on moral grounds- forget it. I will vote for Yosemite Sam as the lesser of two economic evils. The today's mess should have been pinned on Bush and not the nation, by impeachment.
  •  
    rukiddin
    Mar 13 10:25 AM
    People- don't focus your vitriole on Bush for saying the RIGHT things- focus on Benanke who needs to be tackled before he makes the $ anymore worthless to the rest of the world. Try paying for a latte in England with less than $9- the rest of the world is passing us by.

    Last time I checked Bush wasn't the one printing the money, cutting the interest rates or engineering bank bailouts.
  •  
    John
    Lambrechts
    Mar 13 10:49 AM
    My Website
    The Republican Party has lost its way. My party is now pro-war, fiscally reckless, enacts a socialist monetary policy, AND INCREASES the scope of Medicare.

    We are now starting to see the effects of crime on a country by the government, Federal Reserve buying mortgage debt, I mean... what is going on here?!
  •  
    clue me in
    Mar 13 11:43 AM
    Will this country ever recover from President Bush? The Republican party has not upheld it's own philosophy due to lack of leadership (Bush) and/or the lemming complex (we voted for him, he must be followed). Are we at the edge of a cliff or on our way over?
  •  
    Is All Well?
    Mar 13 11:44 AM
    GWB: "And one of the things people are watching carefully is, will the United States government put policy in place to stimulate growth without affecting long-term growth? In other words, without passing laws that make it harder for investment, or harder for capital to move, or harder for markets, labor markets, to remain flexible."

    Hello,

    There is enough blame to go around in the US decline. Nobody is without fault in our national spectrum!

    The GOP will never get it in the current leadership. Conventional Democratic idealogy will not make us any more attractive and prosperous. I believe that the WORLD would like a US that is a SAFE PLACE TO INVEST, period. Given the desire of the powers-that-be to limit regulation and enforcement, who in their right mind would want to invest their funds in a fiscal swamp that has been created to benefit a number of rascalous firms and individuals whose devotion is to live the high life, the rest of the country, and world, be damned.

    Can this policy be changed? Can the clever economic strategists create a more circumspect system that anticipates, or at least reacts to, outrageous financial manipulation before the populace is ravaged? I think that they can, and should. When is the question? How many elderly will fall to the unscrupulous reverse-mortgage perpetrators, in the name of free enterprise, before our government recognizes the injustice?

    There are those that complain that such discussion is not dealing with the economic/business that this site is devoted to. I say that politics is nothing more than economics/business in wolf's clothing as it is now being allowed to play out.

    In my opinion, no conventional thinker is going to get elected to our highest office and make a dent in our economic malaise that the rest of the world recognizes and has, for so many years, been forced to play along with. No longer do they need to be dictated to by the almighty dollar. Like it or not, resources (material and human) are no longer the sole province of the US. We need a radical restructuring of our thinking...not simply electing an idealogical pedant as POTUS. If we don't make have the opportunity to make some good choices soon, the USA will have surrendered the greatest asset that has made this country into what a powerhouse we have been for the past forty years...HIGHER EDUCATION.
  •  
    David Lentz
    Mar 13 11:44 AM
    As if anyone can believe anything Dubya says. Go back and check out his 2000 campaign promises. How about the promises to pursue Osama bin Laden?

    Bush needs a weaker dollar to be able to pay back his borrowed billions (trillions?) with worthless junk. But it has to not be so weak that it discourages lenders from throwing good money after bad as they continue to lend money to Uncle Sam.

    That is his only interest in making these statements, they are just smoke to try and get the suckers to loan him more money.
  •  
    cal48koho
    Mar 13 11:53 AM
    Wow these comments are strong, well written and not histrionic, and mostly from ex repubs like myself. It is clear to all but the few brownshirts left that the lies have been calculated, systemic and unending. There were votes to impeach for sexual misconduct , a presidential bl__job, but none for a president who sees himself guided by the book of revelation as a messenger of God who has engaged in a blow up the world job who can point to not a single accomplishment for 2 terms. The disaster he has rained down on our heads includes the creation of 3.5 trillion of new debt, unfunded mandates, a euro that cost only 82 cents when he took office which now costs $1.55, oil up 5 times(in dollar terms), gold and commodities through the roof, distruction of the middle class and it's manufacturing economy so that we have nothing left but colonoscopies and fried chicken as our economy, and those are getting pretty expensive for obvious reasons. Nothing short of a revolution can remove the long accumulated layers of greed and "market based" solutions that have led us to this point. Do you remember that it was Bin Laden's ultimate strategy to destroy the US economic system which would topple the political system. It is obvious who won this round.He will still be running free long after bush has taken his seat at the Carlyle Group It will be difficult, perhaps impossible, for the country to claw back to anything resembling a shadow of what we had in terms of hegemony, respect, and power. Bush and his goons in just 2 terms have destroyed what it took 100 years to build. Ah, the end of empire is never pretty. We can recover to something else, certainly something better if we have the kind of change that restores our currency, our standing in the world but it will take a realization by the people that THE PARTY IS TRULY OVER AND WE NEED TO SEEK A NEW PARADYM. Someone has to say to the people: Globalization is dead if it means we cannot make anything for ourselves; we must stop ther hemorrhage of our increasingly worth less dollars through a gigantic and mounting trade deficit, mostly as a result of our oil addiction. We produce 6 mil barrels a day of petroleum and consume 20. Energy independence is possible by eliminating 14 million barrels by conservation, serious immediate cafe standards, ending subsidies to trucking and airlines and building a new transportation network which uses energy as if it were precious and scarce.Unless this is taken as a national Manhattan style project mandate, we are heading for that cliff with heedless abandon.
  •  
    Ice
    Mar 13 12:52 PM
    My Website
    It is hard to believe Bush or any of the other politicians want a strong dollar. If they get one the will need to raise taxes.

    The size of our deficit is better to handle if the dollar falls further and further. The US citizens and the Government have a pact. We don't raise taxes and we pay off our joint debt by trashing the dollar. With a Dollar 3:1 to the Euro our deficit is back with in normal boundaries plus as an extra benefit a lot of exported jobs will automatically come back to the US.

    So trashing the dollar will help this country. At least if you believe in short side politically easy solutions.

    So if you claim Bush wants a strong dollar you also make a statement that he is for the difficult, honorable and durable route out of this mess. I personally find that hard to believe; it would be a first time :)
  •  
    Philly Jim
    Mar 13 01:26 PM
    Real conservatives need to create a new party with members from both sides and a common vision for (a) strong, intelligent, high-tech America(s.) I like the sound of Progressive Patriots. Oh, and let's not pick an idiot like McCain to run it, a great man, but doesn't even know which country Putin is from. Oy vey!
  •  
    hartah
    Mar 13 02:05 PM
    It is beyond ridiculous to suggest the "Bush" himself can correct the dollar's fall. Why is that people think that "Bush" -- or any President -- can waive a magic wand and quickly change a flawed economic policy implemented and supported by the Federal Reserves Greenspan and now Bernake, and the spendthrift Congress that double taxes saving and investment. Taxes should be removed on savings and incentives employed to increase investment. Instead the politicians are poised to do the opposite.
    Flooding the economy with more debt and cash is counterproductive and will only increase inflation.
  •  
    Is All Well?
    Mar 13 02:35 PM
    I like Philly Jim's suggestion for the Progressive Patriots Party.

    Finding capable, qualified, non self-serving candidates/leaders in the current, long-developing political morass in the USA will not be easy. A few months back former Senator David Bourne convened a meeting of relatively partisan-free national figures at the University of Oklahoma to discuss just such a possibility. Amongst other attendees was Mayor Michael Bloomberg who seems to be a most capable innovator who is willing to work tirelessly on both sides of the aisle and willing to consider novel ideas to improve society in the USA and the world; his track record in running NYC is completely at odds with the status quo approach that has dominated DC for decades. It is instructive that these savvy political leaders did not see a third party candidate being attractive to the populace at present. The public seems more content to take a chance with the hegemony of the current Bush and Clinton dynasties.

    I fear that we will once again get what we deserve in the 2008 election, although I sincerely hope for something better...a new approach. We need a different definition of a patriot that has been in currency for the past eight years!
  •  
    Dennis Lucey
    Mar 13 03:55 PM
    My Website
    I'm not interested in a strong dollar, or a weak dollar. I'm interested in a dollar whose value is determined by market forces, not by inflationary policies of the Fed or by poor fiscal management by the government.
  •  
    Ames
    Tiedeman
    Mar 13 05:38 PM
    My Website
    The dollar is right where it needs to be. One cannot have a strong currency when one has an 800 billion dollar trade deficit. The U.S. has made a mess of its currency with its obscene trade policies. It has essentially traded its currency to the ground.
  •  
    TedSpick
    Mar 13 09:24 PM
    Based on the hate-Bush rantings on this post I cannot wait to see the nirvana about to befall the US in several years after a Democatic congress and Democratic administration fix everything and make the whole world beautiful again - Tax increases so we can give chickens away for every pot - protection for the rights of all Jihadists who wish to kill us - high tariffs to protect the few Union workers left - rationed health care paid for by the rich - marines in jail for having tried to kill people - $10 per gallon gasoline to protect the environment - oh I just cannot wait!
  •  
    sbenard
    Mar 14 01:18 AM
    My Website
    Ditto to just about everything I've read here.

    May I simply suggest that it is time that conservatives bolted their party instead of their principles. Things might have been much better if we had done this years ago. Both the Republicans and Democrats are socialists. We need a third Party and get back to the tried and true principles this country was founded upon.
    "Always vote for principle, though you may vote alone, and you may cherish the sweetest reflection that your vote is never lost." -- John Quincy Adams
    “[A] wise and frugal government... shall restrain men from injuring one another, shall leave them otherwise free to regulate their own pursuits of industry and improvement, and shall not take from the mouth of labor the bread it has earned.” —Thomas Jefferson
  •  
    whidbey
    Mar 15 11:19 AM
    The fault, dear readers, lies not in our stars (or Bush), but in ourselves. We must mature to die wise.
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