Thursday, 22 of February of 2018

Economics. Explained.  

Trade-Weighted Dollar

February 6 2018

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 fallen 8.0% from where it was at this time last year.

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 weakened  about 8.3% over the past year.  A year ago one dollar would buy 6.87 yuan.  Today it buys 6.30 yuan.

The U.S. dollar has weakened 5.9% versus the Canadian dollar during the past year.  For example, a year ago one U.S. dollar would purchase $1.31 Canadian dollars.  Today it will buy $1.23 Canadian dollars.

And against the Mexican peso the dollar has weakened by 9.1% during the past year.  A year ago one dollar would buy 20.3 Mexican pesos.  Today it will buy 18.4 pesos.

The dollar has weakened by 2.6% against the yen during the course of the past year.  A year ago one dollar would buy 112.9 yen.  Today that same one dollar will buy 109.9  yen.

The dollar has weakened 17.0% relative to the Euro during the past year.  A year ago one Euro cost $1.065.  Today one Euro costs $1.245.

Thus, the dollar has weakened against every major currency during the course of the past year.   As a result, the trade-weighted value of the dollar, as noted earlier, has fallen 8.0% during the past year.

Currency changes can affect the economy in several ways.   First, a falling dollar can increase GDP growth of U.S. exports because U.S. goods are now cheaper for foreign purchasers to buy.  Similarly, a falling dollar can reduce growth of imports because foreign goods are now more expensive for Americans to buy.  More exports and fewer imports will boost GDP growth that year.  A falling dollar can also increase the rate of inflation in the U.S. because the prices of foreign goods are now higher.  A rising dollar will do the opposite — reduced growth in exports, faster growth in imports, and a lower rate of inflation.

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.

Given a 6.0% drop in the value of the dollar in 2017 the trade component of GDP will add about 0.2% to GDP growth in that year.  The weaker dollar seems to reflect the perception that GDP growth in Europe is picking up more quickly than it is in the U.S. and, simultaneously an expectation that the European Central Bank will soon begin to raise rates.  It is not exactly clear to us that is the case.  GDP growth seems to be accelerating quickly both in the U.S. and Europe.  It is hard to tell if growth in one area is accelerating more rapidly than in the other.  The same is true with interest rates.  We know the path the Fed has chosen — a very slow but steady path towards higher rates.  The Europeans have not yet begun that process.  Once they start they will undoubtedly proceed with caution.

But now we have Treasury Secretary Mnuchin suggesting that a “weaker dollar is good for trade”.  That is in sharp contrast to the long-held notion that a strong dollar is good for the U.S.  A weaker dollar may benefit the U.S. in the short term by boosting GDP growth and helping to keep the inflation rate in check.  But the Treasury also has large and increasing budget deficits which are expected to once again surpass  $1.0 trillion in a few years.  If the dollar should begin an extended slide, foreign central banks (the Chinese in particular) could become somewhat less willing to purchase large amounts of Treasury securities.  But this president and this administration are known for saying one thing one day and something different the next.  We’ll see.  On balance, we expect the dollar to fall about 3.0% this year.  If that is the case, it will add little, perhaps 0.1% to GDP growth this year and, similarly, have a minor impact on the inflation rate.

Stephen Slifer

NumberNomics

Charleston, SC


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