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A Dollar Intervention in the Making
added: 2007-11-29

"The dollar has been steadily losing value against the currencies of our major trading partners for the better part of the last five years" - says Adolfo Laurenti, senior economist of Mesirow Financial.

"Authorities in the U.S., who have touted the benefits of a weakened dollar such as increased imports, are likely to react if the dollar continues its rapid decline. Speculators, in particular, should be careful to not get caught by a coordinated intervention on the dollar's behalf, which is becoming more likely," says Adolfo Laurenti - "In principle, there is nothing exceptional about currencies. Like normal goods currencies' prices (i.e., the foreign exchange rate) fluctuate to reflect relative changes in supply and demand. The fall in the value of the dollar exchange rate, then is simply the result of excess supply of dollars over the demand," notes Laurenti.

His observations include:

- Structurally high trade deficits, like those that we are seeing today, tend to create an excess supply of dollars in the global economy.

- Given the exceptionally low interest rates that we saw between 2003 and 2004, when the Federal Reserve lowered the fed funds rate to 1%, it is not surprising that the dollar depreciated for a prolonged period of time.

- Most economists agree that the dollar needs to drop another 5% to 10% to see a meaningful improvement in the U.S. trade deficit.

- The dollar has already fallen 11% against the Euro and 9% against the Yen since the start of the year. Since currency markets have a tendency to overshoot, a panic among investors may cause the U.S. dollar to depreciate at an even faster rate in the near term.

- On net, the dollar may weaken further in the near term, but will stabilize in 2008.

- Political and monetary authorities are beginning to pay attention. International pressures on the U.S. to support a strong dollar are clearly intensifying. Monetary authorities will not repeat the mistake of 1997, when Asian countries were caught with empty coffers and paid dearly for their inability to support their currencies against speculative attacks.

"The primary source for such an imbalance is in the U.S. trade deficit, which has swelled dramatically over the last decade. Since 1998, domestic imports - buoyed by sustained internal demand-have far outstripped exports. The result is a rise in the trade deficit as a share of GDP from 2% to 6%. That is more than $700 billion in nominal terms - a level considered unsustainable by most economists," says Laurenti.


Source: PR Newswire

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