Sunday, 26 of March of 2017

Economics. Explained.  

Trade-Weighted Dollar

March 15, 2017

Trade-weighted dollar

The trade-weighted value of the dollar, which represents the value of the dollar against the currencies of a broad group of U.S. trading partners has risen 4.0% from where it was at this time last year.  But that pattern is a bit skewed.  The dollar’s valued declined in the first few months of 2016, was relatively steady throughout the summer, and then rose sharply since the election in November as potential policy changes advocated by President Trump seem likely to accelerate GDP growth, raise the inflation rate, and cause the Fed to push interest rates steadily higher.  All of those changes are attractive to foreign investors as they seek the relatively higher returns available in the U.S. stock market, and the higher yields of U.S. Treasury securities.

When you try to figure out the impact of currency movements on our trade, you have to weigh the movements depending upon the volume of trade we do with that country.  For example, our largest trading partners are:

With respect to the Chinese yuan the dollar has strengthened about 6.0% over the past year.  A year ago one dollar would buy 6.50 yuan.  Today it buys 6.89 yuan.

Trade-weighted dollar -- China

The U.S. dollar has strengthened 1.2% versus the Canadian dollar during the past year.  For example, a year ago one U.S. dollar would purchase $1.32 Canadian dollars.  Today it will buy $1.34 Canadian dollars.

Trade-weighted dollar -- Canada

And against the Mexican peso the dollar has strengthened by 12.3% during the past year.  A year ago one dollar would buy 17.6 Mexican pesos.  Today it will buy 19.8 pesos.

Trade-weighted dollar -- Mexican Peso

The dollar has strengthened by 1.2% against the yen during the course of the past year.  A year ago one dollar would buy 112 yen.  Today that same one dollar will buy 114 yen.

Trade-weighted dollar -- Yen

The dollar has strengthened by 5.3% against the Euro during the course of the past year.  A year ago one Euro cost $1.11.  Today that same Euro costs $1.05.

Trade-weighted dollar -- Euro

Thus, the dollar has strengthened against every major currency during the course of the year.   That appreciation has been the largest against the Mexican peso (12%), the Chinese yuan (6%) and the Euro (5%) with relatively small 1% increases against the Canadian dollar and the Euro.   As a result, the trade-weighted value of the dollar, as noted earlier, has risen 4.0% during the past year.

Currency changes can affect the economy in several ways.   First, a rising dollar can reduce growth of U.S. exports because U.S. goods are now more expensive for foreign purchasers.  Similarly, a rising dollar can accelerate growth of imports because foreign goods are now cheaper for Americans to buy.  A rising dollar can also lower the rate of inflation in the U.S. because the prices of foreign goods are likely to fall.

From October 2014 to January 2016 the dollar rose 22%.  That is a huge change.  The trade component subtracted about 0.5% from GDP growth in both 2014 and 2015.  We expect the dollar to rise about 10% this year.  If that is the case the trade component of GDP should subtract a relatively modest 0.2% from GDP growth in 2017.  The rising dollar will also help to keep the inflation rate in check this year as the prices of imported goods decline, but this effect will be quite small.

From the European and Japanese vantage points a weaker currency will help to boost GDP growth which is currently anemic.  That is a good thing  Furthermore, both Europe and Japan suffer from too little inflation.  A weaker currently will tend to raise it.  That, too, is a good thing.  So from a European and Asian viewpoint more growth and inflation caused by a weaker currency is a good thing.  If Europe and Japan are successful, stronger growth in those sectors of the world will ultimately help stimulate the U.S. economy.

Stephen Slifer

NumberNomics

Charleston, SC


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