The Dollar-Fifty-Six Euro

When some Americans travel to Europe these days, they are shocked at the anti-American (or more precisely, anti-Bush) attitudes expressed by the Europeans. Me, I'm used to that sort of thing, so when I heard such sentiments on my recent vacation, they didn't surprise me much. But what did shock me was the airport currency exchange counter. To buy one Euro on the day I arrived, it cost me $1.56.

It seems I was unlucky enough to be traveling during the week the Euro hit a historic high against the dollar. I have to admit, it was my first time in the "Eurozone" -- the group of countries who have adopted the Euro (€) as their currency. I had previously visited London since the Euro's introduction, but since the U.K. refuses to give up the pound sterling, I didn't handle Euros at all. Until now.

The reason a dollar-fifty-six is a shocking price for one Euro is that when it was introduced, the Euro traded around one-for-one with the U.S. dollar. It fluctuated a bit, between about $0.85 and $1.15, but during the transition period it averaged out at about even. One dollar equaled one Euro. But the really shocking thing is: this wasn't that long ago.

In the fall of 2002, one dollar could still buy you one Euro. This was one year after 9/11, during which time the value of the Euro had only changed by about ten cents. Since that time, for roughly the last five years, the dollar has gotten progressively weaker, and the Euro has gotten progressively stronger.

Put another way, it takes 50% more dollars to buy European goods than it did five years ago. Or, if you prefer, the dollar has lost one-third of its value in that time.

Now, admittedly, I am no economist and don't pretend to fully understand the complexities of the world currency trading market. But does it really take one to know that something is wrong with this picture?

The way I understand things (any economists out there, feel free to correct me if I'm wrong), other countries buy U.S. dollars on the trading markets for various reasons, one of the biggest being their "foreign reserves." Countries hedge their own currencies against disaster by holding onto other countries' money as a "reserve." It's kind of like investing in a company, but instead of shares of stock you get "shares" (dollars, for instance) of "the U.S. economy" (America's future prospects). When America's future prospects in the world economy look good, the dollar gets stronger and it costs other countries more of their own currency to buy one. When America's future prospects look dim, then the dollar weakens. And it costs a dollar fifty-six to buy a Euro.

Adept students of history will point out that the fall of 2002 was when we pretty much announced to the world that we were going to invade Iraq. While (again) I'm not an economist, I would think that might have something to do with the situation. But our Middle East adventure isn't the only thing driving the dollar down. The high price of oil, our subprime mortgage mess, the Fed's interest rates, inflation, our national budget deficits, our trade imbalance, and many other things are taken into consideration.

Whatever the reason, for the past five years the dollar has been sliding in a big way. Take a look at this chart of the Euro's relative strength against the dollar for the past 37 years to see which way the trend line is heading. While it is true that we're only a bit below where we were in 1995, you'll remember that the late 90s were a boom time for the U.S. economy, which explains the dollar's subsequent recovery. However, very few economists are predicting a boom time right around the corner for the U.S. economy today. Most of them are nervously hinting that the opposite might be a more accurate prognostication.

Now, while it is true that economists' predictions are mostly not worth squat (common joke in the industry: "economists have predicted ten of the last three recessions!") and should be viewed with the same skepticism as any fortuneteller's advice; if it's true that a recession might be just around the corner for the U.S., then that is not going to help the dollar at all. I may be looking back in a few years at "how cheap" Euros were for "only" $1.56, in other words. [Boy, that was a depressing sentence to type.]

The real worry is that other countries, at some point, will decide the dollar is a bad bet altogether, and either stop buying them for their reserves or (even worse) dump all their dollar reserves on the open market to exchange them for something more stable... like Euros, for instance.

This hasn't happened yet, but signs are pointing to other countries at least considering this sea change. In 2007 the Euro has hit a new high as a percentage of the world's reserve currency (25.6%), but although the dollar has dropped a bit from its high of around 71%, it's still a comfortable 64.8% which is not even at the low of 59% reached in 1995. The Euro, in other words, still has a long way to go before it replaces the dollar in the world's bank vaults.

But we shouldn't be all that complacent about the prospects for the future. There are two enormous events which could spell disaster for the dollar. The first is if China decides to destroy our economy by dumping all its dollars (and their vast amount of U.S. national debt holdings) on the market, causing a glut. If there's a glut of dollars being sold, the price would collapse. I even wrote about this scenario as part of my Hallowe'en horror story this year, because it is indeed a scary thing.

The second thing which could cripple the dollar would be if the world's oil markets decided to start trading in Euros instead of in dollars. Right now, every barrel of oil sold worldwide is sold in dollars, to make trading easier. But if OPEC decided that the dollar's value was so volatile that they wanted something more stable, like the Euro, then a vast amount of the world's economy would switch from dollars to Euros almost overnight. This, too, would likely cause wild fluctuations in the dollar's relative value.

But while both of these doom-and-gloom scenarios may happen soon... then again, they may not. As I've already said, economists' predictions are mostly bunk, and I'm not even an economist. I'm just a guy who occasionally goes to Europe and notices when my dollars become smaller (much smaller!) at the exchange booth.

The strangest manifestation of the weak dollar in Europe right now is the hordes of European shoppers coming to America (New York City, mostly) to do their Christmas shopping. While some are Euro-yuppies who are buying foreign goods for their chic value (the same way we buy European products because they're "cooler" than American products), many are simply looking for a bargain. Imagine that -- even with the price of roundtrip airfare added in, it is still cheaper to do your Christmas shopping in New York than at home in Europe, because the dollar is so weak. That's kind of an astounding concept.

Predictions are that over one million Europeans will make this shopping trip before Christmas. The "New York shopping spree" is so popular right now, they're giving them away on the radio. While driving to the Dublin airport to catch my flight back home, I heard a morning radio show that was eerily familiar (without the Irish accents, they could have been any American city's "morning zoo" show -- they really have the format down pat), and they were running a dial-in contest for a New York shopping holiday.

Is this to be America's future?

Bargain basement to the world?

 

[Note: In case you missed it, while I was away I ran a series of transcripts of campaign speeches from each of the Democratic presidential candidates. Tired of blathering and pontificating from pundits? Want to know what the candidates are actually saying? Feel like thinking for yourself? Then check it out! It's all conveniently in one place for you to intelligently compare all the candidates.]

 

Chris Weigant blogs at: ChrisWeigant.com

 

Comments

[BRUMALIA]

Yes,the dollar may be dumped soon for the Euro.

[MilwaukeeDan]

Chris, I'm not so sure about the Europeans coming here to shop. The high end stuff is made in Europe anyway(go to Italy for clothes and leather products, Scotland for wool,ect), so why would you fly 8 hrs. to by Chinese made crap?

[VivaZapata]

the continued sell off of the dollar is inevitable it seems as the federal reserve feels printing money is a solution. the smart countries will dump the green stuff prior to each rate cut. what a mess.

[MilwaukeeDan]

Good post Chris, my wife and I rehabed an old house on her families farm property in eastern Europe several years ago, it was affordable, then. Now with the dollar tanking, we aren't sure how much time we will be able to spend there. Some will say, "stay and spend in the good ole USA". The problem is the dollar has lost value here as well and wages are staggnant. Have you been to the grocery store, or a gas station, or looked at your energy bills over the last 10 years? How about cable, water or phone bills? Everything has gone way up(some doubled), it's just you don't notice it because it's GRADUAL. When you go to Europe, you get smacked with that 12% annual loss, it hurts.

[RumiSouth]

This sounds like a perfect excuse to bomb Iran.

[ReasonIsMyReligion]

Heckuva job, Duhbya.

[robinhood1]

Is it possible that the Euro has become way over valued? Europeans are coming to the US in large numbers to go shopping. I don't read about Americans going to Europe to go shopping. Given the bad press the US$ has gotten in recent months, you'd think the US economy was about to collapse. The recent riots in the Moslem suburbs of Paris and the wildcat strikes by various French labor unions suggest that Europe has a lot more problems to worry about. It is not doing a good job of integrating its Moslem immigrants into mainstream society. Its social programs are probably unsustainable from a cost standpoint. In Italy, deaths now exceed births, the fertility rate is down to 1.29 child births per woman (2.1 is considered breakeven from a population standpoint)and the migrants it is getting are not ones it would necessarily choose, in many cases. Italy's public debt is about 106.7% of GDP (2006), according to the latest online CIA Factbook. This compares to 64.7% for the US (2005). Would you want to buy a Republic of Italy bond due in 30 years, even if it is denominated in Euros?

[PeterMerel]

America has stayed afloat by cannibalizing its gullible mortgagors. Now sub-prime meltdown has seriously spread to near prime and prime mortgages and to subprime and near prime credit cards and auto loans where deliquencies are rising and will sharply rise further in the year ahead. Over a trillion dollars of debt is expected to default in 2008.

This default is amplified by derivatives worth many times as much. The head of credit strategy at Morgan Stanley, Gregory Peters, says it's likely the financial system "will come to a grinding halt" in the next few months (http://canada.theoildrum.com/node/3249).

Central bank infusions (Over $1 trillion worth since July) have stopped a massive bank liquidity crisis from shutting us down for now. But in 2008, according to Gerald Celente of Trends Research, the big banks and investment houses will be forced to sell off assets necessitating further credit contraction and wiping 90% off the value of the US dollar (http://gpolya.newsvine.com/_news/2007/11/26/1121662-us-expert-panic-of-2008-us-dollar-to-drop-by-90-percent).

With a shrunken dollar our oil prices skyrocket. There are many nations - China, India, Russia and the EU - happy to replace us as oil consumers. We will no longer be able to afford to buy the things these countries make and we have neither the expertise nor the resources to make equivalents here in America. We trail the rest of the world in manufacturing, in schooling our citizens, and we've let our resource distribution infrastructure - roads and ports - fall into deep disrepair.

We kept none of the real wealth we enjoyed last century and our wealth of material possessions are all designed to wear out in a matter of years, sometimes months. So what on earth, besides a sense of entitlement, does America have to sell any more? If we have nothing to sell then why would the rest of the world exchange their cold, hard Euros for any amount of our Magic Monopoly Money?

[willo]

When you fight wars based on lies with borrowed money this is what happens.
Just put a magnet on your car that says bring back the value of the dollar. That should do it.

[realitytrumpsbull]

No, no, jack it up MORE, make it the 915 hepTILLION dollar euro...you can own the planet...for one euro...problem: That euro
will be as tall as Mt. Everest, weigh 18
million pounds, and be made out of 100% bullshit. LOL

[lisakaz]

I think there may be something quite deliberate here in terms of what Lou Dobbs calls "the war on the middle class" (really it's a war on most Americans to build a binary society of super rich and rather impoverished). Let me give you an insight (not from me):

"Lenin was certainly right. There is no subtler, no surer means of overturning the existing basis of society than to debaugh the currency. The process engages all the hidden forces of economic law on the side of destruction, and does it in a manner which not one man in a million is able to diagnose."

Of course, this may boomerbang back on those seeking to profit from "overturning the existing basis of society." We shall see, depending first on the extent of debauchery undergone by the US dollar. The author of that quote? John Maynard Keynes, from "The Economic Consequences of the Peace" (1919).

[rabun666]

One reason for devaluing the dollar is simply the printing of currency, or the deficit. Devaluation is a refuge for tyrants who don't know what they are doing. Reagoon started it by declaring that debt was really prosperity and ran up some $3,000,000,000,000 trillion in debt, called it prosperity and was believed. When ordering money for Iraq it's order by the ton of $100 bills with some 3,300 ton gone missing. Simultaneously, the Gulf states, Dubai, is experiencing a building boom with some 25% of the high rise cranes there. Dubai neighbors Iraq and has secretive banking laws. Just a coincidence?

[Henry]

As for economics, it is all very simple, supply and demand. So wither the dollar? We have flooded the world with dollars and $10 trillion in accumulated trade deficits. Can you see the supply increase?
Foreign governments do not hold "dollars" as reserves. They hold dollar denominated assets, e.g.the U.S. Treasury Note, but as the trade deficits continue, the situation just keeps on on keeping on, and before you know it, Greshams Law kicks in, and...good money chases out bad money. I read that we have 40% reductions in value for the yen and the yuan coming. However, the Japanese and the PRC are cheating to keep their currencies "cheaper" than the invisible hand of the market would otherwise deliver. George Bush lets them cheat (what a tough guy little George is)