Can the administration control the dollar?

By Felix Salmon
April 5, 2009

On the Brian Lehrer show Friday, I talked about the G20 meeting and the way that the US is taking a more mulilateral, as opposed to unilateral, approach to global leadership. What I didn’t mention is another huge difference between the beginning of the Obama administration and the end of the Bush administration: the strong dollar. Which is something exercising Andy Harless:

That old mantra, “A strong dollar is in our national interest,” still echoes through the air in the District of Columbia. Never mind that the strong dollar was largely responsible for the housing boom that led to the current bust. It was: the strong dollar encouraged Americans to buy from abroad and discouraged those abroad from buying from the US; as a result, the only way the Fed could induce a recovery was by cutting interest rates to levels that sparked a boom in housing. The rest, unfortunately, is history.

A strong dollar is not in our national interest. It is not in the world’s interest. It is not in the interest of justice. It is just wrong.

I disagree. I think that the strong dollar is very much in the national interest when we’re running trillion-dollar deficits: that flow of money into the country is helping to make the cost of that money a great deal lower than, by rights, it should be. Which in turn is saving the US taxpayer tens if not hundreds of billions of dollars.

And clearly a strong dollar is in the world’s interest: we’re still the consumer of last resort, and if the dollar weakened substantially, we’d import even less than we’re importing right now — which would benefit no one.

But more to the point, this whole debate is stunningly academic. The FX markets love to believe that the Treasury secretary has real control over the level of the dollar, but he doesn’t. If we wanted a weaker dollar, what would we do? Cut interest rates? We’ve done that already, and we’ve hit the zero bound, so that’s not an option. Simply print money? Well, we’re trying that too. In effect, US monetary policy is trying its hardest to send the dollar south, and is failing miserably.

So long as the generalized global level of fear remains high, the flight-to-quality trade will remain, and like it or not, when the whole world is falling apart, the US dollar tends to look like the least worst option. Sooner or later, I suspect it’s going to weaken, as a few bold hedge funds rediscover the carry trade, and as the Fed’s monetary policy starts to show up in the inflation figures. But I’m not holding my breath.

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