That is more to the point I should say

money.jpgI really do like reading the English financial and economics newspapers; particularly The Economist (on which I am a subscriber) and the FT are amongst my favourites. However, I do not always agree with them in their view of the global economy and the dynamics which drive it. Obviously, these are more weighty opinion makers than I, but still I am happy to see that for example The Economist are beginning to see things differently.

So what are we dealing with here. Well, everyone talks about the global imbalances and the US current account deficit. The dollar must fall or at least so theory tells us. This is all well and good but it requires that other currencies start to support the correction or else nothing will happen; the remninbi is one thing here but also a strengthened Yen and Euro would be needed which again requires that the alleged recovery of the Eurozone and Japan is sustainable and here to last. So far so good, and because The Economist and the FT on several occasions have claimed the recovery to be exactly that (i.e. sustainable) there is really no problem I guess. I have argued otherwise but in theory it all seems to fit. However as I hinted above, at least The Economist's Global Agenda has an article which suggests that other dynamics might be in place preventing the dollar from falling ... let us look at the arguments.

First off the deficit is indeed contracting a bit but the dollar is ... well, let us use The Economist's wording here 'uncooperative'.

'In a rare instance of economic consensus, almost everyone now agrees that the current-account balance, which was over $800 billion in the red at the end of last year, is unsustainable.

It is also generally agreed that the most natural way for the deficit to correct itself is with a sizeable drop in the value of the dollar. That would make imports more expensive for American shoppers, and make their exports more attractive to others. Yet, until recently, the dollar has been surprisingly uncooperative. It has fallen from the high levels of early 2002, when a buck bought more than €1.1 and over ¥130. But last year its value rose steadily, even though the current-account deficit grew by almost $150 billion.'

If we forget for a moment the theory of the 'pass through rate' (the difference between fluctuations in the real exchange rate and domestic prices), we find the real reason as to why the dollar is not likely to fall anytime soon.

'However, in many of the world’s largest economies, particularly Italy, Japan and Germany, economic growth is both fragile and highly dependant on exports. Domestic demand has not yet recovered to the point where consumers can support robust growth in their own economies, much less take on the burden of reducing the gross trade imbalances between America and the rest of the world.'

Hmm, this seems interesting does it not?