Pogo, created by the cartoonist Walt Kelly, is a possum living in Georgia’s Okefenokee Swamp. About 50 years ago, Pogo proclaimed: “We have met the enemy and he is us.”
OVERVIEW AND CONCLUSION
For many decades, the United States dollar has led the foreign exchange field as the key currency for global trade as well as financial reserves. Over that time span, the greenback’s predominance to a significant extent encouraged, sustained, and reflected widespread (although not unlimited) American and global faith in the wisdom and goodness of American cultural values and the persuasive and practical ability of the nation to be a (and sometimes the) critical guiding force in international affairs. Although the dollar obviously has had numerous extended periods of appreciation and depreciation since the free market currency dealing regime began in the early 1970s, the dollar’s crucial role in the increasingly intertwined global economic system has seldom been significantly questioned or challenged for over an extended period of time.
Using the Federal Reserve’s real “Broad Dollar Index” (which is a monthly average) as a signpost, the US dollar “in general”, for almost ten years, from its major bottom in July 2011 until April 2020, the overall trend of the dollar in general was bullish. The US dollar “in general” depreciated until “around” January 2021. It rallied for several months thereafter, with August 2021 being the high since then. From a long run historical perspective, August 2021’s real Broad Dollar Index level is rather strong.
However, when interpreted alongside phenomena such as America’s government debt level and trend, ascending United States inflation, and the nation’s ongoing cultural divisions and the recent increase in net dissatisfaction among the US public regarding the country’s direction, a review of various important currency cross rate trends against the dollar suggest that “overall” weakness in the US dollar has resumed (beginning around late August 2021) or will do so in the near future.
Take a related vantage point. Given the Federal Reserve’s determined effort to repress (pin at a very low level) the Federal Funds rate and US Treasury yields despite numerous inflationary signs, a probable outcome (consequence; outlet) for that central bank scheme in the context of these assorted variables is a depreciating dollar.
In this context, if the real Broad Dollar Index (“BDI”) moved toward or underneath its March 2009 international economic disaster peak at 101.5, that probably will help to precipitate a “weak United States dollar equals weak US stocks” scenario.
An underlying factor promoting a dollar tumble is the gradually declining share of America as a percentage of worldwide GDP. Also, both political parties, not just the current US Administration, and especially in the coronavirus era, likely want the real Broad Dollar Index to stay beneath its April 2020 summit at 113.6. They also probably prefer a renewed fall in the BDI from August 2021’s 107.3 elevation. The great majority of the country’s politicians preach their allegiance to a strong dollar, but they also endorse economic growth.
Several additional phenomena make the dollar particularly vulnerable nowadays. First, although many major nations have increased their government debt burdens in recent years, America’s public debt situation has worsened significantly more than most others since 2019. Moreover, America already faced widening federal budget deficits encouraged by the tax “reform” enacted at end 2017. Plus don’t overlook the ongoing ominous long run debt burden, looming from factors such as an aging population. How easily will America service its debt situation? In addition, the current Administration’s infrastructure proposals, if a significant proportion of them become law, probably will boost America’s debt as a percentage of GDP. Will there be a political fight over raising the nation’s debt ceiling? And America’s corporate and individual indebtedness also is substantial.
Second, using the Consumer Price Index (CPI-U, all items) as a benchmark, American “inflation” in recent months has exceeded that of other leading nations. The Fed continues to maintain a highly accommodative monetary policy. This beloved guardian has merely murmured about tapering its massive quantitative easing (money printing) scheme, and it remains reluctant to raise policy rates significantly anytime soon. Due to the Fed’s yield repression, nowadays US Treasury yields across the yield curve relative to the current US CPI level offer a negative real return. This negative return situation of course (all else equal) tends to make UST ownership rather unattractive for many marketplace participants.
Whether because of ascending US interest rates, a descending dollar or both, suppose foreigners become smaller buyers, or even net sellers, of US Treasury securities. Such overseas action would not be an endorsement of America.
Another bearish indicator for the US dollar exists: the intensity and breadth of America’s cultural divisions has increased in recent times. Though the Trump era reflected and enhanced these splits, they remain very significant across various fields. America’s ongoing substantial cultural battles in economic, political, and social arenas reflect reduced national unity and tend to undermine domestic confidence. American confidence in the nation’s overall direction has slumped in recent months. As US citizen faith in the country’s situation declines, so probably likewise will (or has) that of foreigners in regard to America. To some extent, faith in America and its institutions is reflected by a willingness to own substantial amounts of dollar-denominated assets.
An additional feature can intertwine with these variables to undermine the dollar, especially over the long run. In recent years, the strong international belief in the reliability (and leading role) of America as a trading and military partner probably has eroded somewhat. Some of this may reflect the declining US share of worldwide GDP. Former President Trump’s often erratic behavior, bold wordplay, and frequent disregard for the truth assisted this fall in confidence process. Also, ongoing America First (Make America Great Again) movements and an apparently diminished American enthusiasm for multilateralism and globalization probably reduce confidence in other players that America will be “as committed” a partner. For example, trade conflicts, even if they now are less strident than during the Trump presidency, have not evaporated. The dismal American withdrawal process from Afghanistan troubles many overseas observers. In addition, the persistence of America’s fervent and substantial cultural divides to some extent risk injuring foreign faith in the reliability and effectiveness of America on the international scene.
Declining faith in American assets (and its cultural institutions and its economic and political leadership) can inspire shifts away from such assets. American marketplaces will not be completely avoided given their importance, but players can diversify away from them to some extent. Not only Americans but also foreigners own massive sums of dollar-denominated assets (debt instruments, stock in public and private companies, real estate; dollar deposits). Such portfolio changes (especially given America’s slowly declining importance in the global economy) will tend to make the dollar feeble.
Suppose nations and corporations increasingly elect, whether for commercial or political reasons, to avoid using the dollar as the currency via which they transact business. That will injure the dollar.
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America Divided and Dollar Depreciation (9-7-21)