Thursday, November 09, 2006

Is the trade deficit finally catching up with the dollar?

By now you've all heard the September 2006 US trade figures: a $64.3bn deficit, nearly 7% smaller than that of August and the smallest tally since April. Still, the 13 largest monthly trade deficits of all time have occurred during the last 13 months -- but perhaps we should concentrate on the positive.

Rather than talk about petroleum vs. non-petroleum imports or the deficit with China, I'd like to highlight something different. The United States has been running a trade deficit in the 5-6% of GDP range and a balance of payments deficit in the 6-7% of GDP range for two years now with little to no impact on the value of the dollar. Despite the tremendous downward pressure on the USD from these deficits, the ol' greenback (well, at least the $1 bill is still green) has declined nary a whit. Over the past 22 months (December 2004 to October 2006) the broad dollar index is actually up 2% in real terms and the major currencies index is up an incredible 7% in real terms.

But perhaps now, finally, this is starting to turn around.

Through the 8th of this month, the real dollar in November as measured by the broad dollar index is at its lowest point since December 2004, and current trends are likely to push it to its lowest point since October 1997. The dollar has a lot further to fall on the real major currencies index, but a further 5% slide would take the dollar per this measure down to its pre-Asian financial crisis level as well.

With the booming stock market, one would think that foreign capital would be plowing money into the US and supporting the dollar. Yet the declining dollar suggests that foreigners appetite for those juicy US Agency bonds (read: Fannie Mae and Freddie Mac mortgage-backed securities) and even treasury bonds is quickly dissipating. That and some higher-than-OECD-average US inflation suggests that perhaps now, finally, the dollar is feeling gravity's pull.


At 5:30 PM, Anonymous Kett82 said...



With China holding $1 trillion of the green ones, seems like they might be eyeing the pile and wondering how to pass them on.


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At 12:46 PM, Anonymous Kevin said...

I hope, the dollar will finally get stronger again. I am making my money in dollars but I am getting paid in EURO. This means, I am losing 25% of my income every time I need to cash in my check... ;-(

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At 12:04 AM, Blogger mephi said...

I would be prepared for further decreases in the dollar's value. A lot of central banks have moved toward diversification and the Euro is there as a nice alternative for part of their forex reserves.

The big question is, of course, China. They moved to a basket peg but have not really moved the value vs. the dollar much. What happens when central bank support crumbles? Somehow I don't think we'll see any attempt like Plaza out of this administration.

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At 11:35 PM, Blogger Freudian Slip said...

We all knew this bubble wouldn't last forever. Sure would have been nice though!

At 6:59 AM, Anonymous Ames Tiedeman said...

The dollar, as predicted is being crushed. We are now at Par with the Canadian Dollar, the Loonie as it is called. This was all so predictable. You cannot run an 800 bilion dollar trade deficit and have your currency in demand. We have a lot farther to fall. Within 5 years from 2008 we should see the Canadian Dollar worth 25 % more than the U.S. dollar. The Euro at 1.40 now, should move to near 2.50, as China buys more and more of the Euro.
The pound at 2.04 as I write this will be near 3.00. Be ready for CHINA. When they finally let their currency float it will appreciate 70% over a 36 month period. The US trade deficit will be cut in half and then some by 2020.


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