It’s an article of faith among many analysts that the U.S. dollar is in trouble. The response to the financial crisis, they say, has debased the currency. The culprits are the Federal Reserve, which slashed interest rates to zero, printed money, and vastly expanded its balance sheet, and the Obama administration, which has run up huge deficits by embracing Keynesian efforts to stimulate the economy.
As early as July 2008—months before the presidential election—McCain economic adviser Douglas Holtz-Eakin blamed the weak dollar on Obama. Here’s a typical piece from Conservative Daily News arguing that the administration is weakening the dollar to boost exports. Niall Ferguson, author of this declinist, anti-Keynesian Newsweek cover story, last October said the dollar could fall another 20 percent against the euro over the next few years. John Paulson, who made billions betting against subprime mortgages, as chronicled by Gregory Zuckerman in the The Greatest Trade Ever, is bearish on the dollar too.
But like so much of what conservatives have been saying recently about the economy and economic policy, this weak-dollar argument ignores current data and recent history.
It’s fair to argue that Bernanke, President Bush, and President Obama didn’t have much choice other than to cut interest rates, backstop markets, and bail out financial institutions. The expensive components of the bailout—the TARP, the formal assumption of Fannie Mae and Freddie Mac’s debts, the rescue of AIG—started on Bush’s watch, not on Obama’s. What’s more, the soaring deficit is as much a function of a collapse in tax revenues as of reckless new spending. Did you know that in the first two months of the current fiscal year, spending is actually down 4 percent from the first two months of last fiscal year? (Alas, revenues are down 4.3 percent.)
But have Bernanke and Obama made the dollar weaker? Has the response to the crisis, which started with the Bush administration in the summer of 2008, debased the currency? Not really. The broadest measure of the dollar’s strength is the trade-weighted dollar, which measures the dollar’s value against a basket of currencies of our trading partners. (Here’s a helpful list of our top 10 trading partners: Canada, China, Mexico, Japan, Germany, United Kingdom, South Korea, France, Taiwan, and Brazil.) Here’s a long-term chart of the trade-weighted dollar index. What it shows, first of all, is that since the onset of the crisis in earnest—which I’d date to the spring of 2008, when Bear Stearns failed—the dollar has actually gained ground against the currencies of our biggest trading partners. It spiked in reaction to the panic in the fall of 2008, as investors sought a safe haven in the dollar, then fell back in 2009 before turning up again recently. It currently sits about 7 percent higher than the low of mid-2008 and almost exactly where it did in the fall of 2007, before the troubles started. A two-year chart would thus show a currency that hasn’t been debased much at all.
Even when you view the performance of the dollar against individual currencies, there’s no strong evidence the dollar has been debased. The dollar has definitely lost ground against some currencies, such as the Japanese yen and the Chinese yuan, as this chart shows. (Of course, movement against the yuan is largely a function of China’s mercantilist policies—not a function of investors placing bets on the relative value of currencies. Virtually everybody agrees that the dollar should be weaker against the Chinese currency.)
But against other currencies, the dollar has essentially been stable since the onset of the crisis. Here’s a five-year chart of the dollar against the euro, whose users collectively constitute a massive trading partner for the United States. It shows the dollar is basically where it was in October 2007, and has rallied since July 2008. Ditto for the U.S. dollar against the Canadian dollar. Against some other currencies of big trading partners—the British pound, the Mexican peso, the South Korean won—the dollar has actually rallied significantly.
The charts do tell a story of long-term decline. But it didn’t start in January 2009, with the inauguration of President Obama. And it didn’t start in March 2008, when the Fed rushed to the aid of the financial system by guaranteeing some of Bear Stearns’ assets. Look again at the long-term chart of the trade-weighted dollar. Between the peak in 2002 and the trough in 2008, the dollar lost 27 percent of its value. If you’re inclined to blame the chief monetary and fiscal officers of the country—the chairman of the Fed and the president—then it sure looks like Alan Greenspan and George W. Bush debased the currency something fierce.
The dollar’s recent upturn and relative stability could be a mirage. It’s entirely possible that currency could collapse if inflation surges or economic conditions deteriorate. If you believe the U.S. economy will scrape along bottom for the next few years and that inflation will spike, then prolonged dollar weakness seems likely. But if you believe the economic recovery is picking up steam; that the economy may grow at a rate between 3 percent and 4 percent in 2010 (as of Friday, Macroeconomic Advisers said fourth-quarter GDP was tracking at a 5.4 percent annual rate); that the United States will grow more rapidly than the United Kingdom, the Eurozone, and Japan; and that inflation, which has risen just 1.8 percent in the past 12 months, will remain under control, then the greenback’s prospects look more rosy.