WEST PALM BEACH, FL (HEDGECO.NET)- The US dollar has been on steep decline against major currencies of the world, particularly the Euro, for quite some time. Some market analysts, worry that thedecline of the dollar may discourage foreign investors from actively purchasing US government Treasury products.
Attendees at the World Economic Forum annual meeting in Davos, Switzerland, wondered what impact the continuing decline of the dollar would have on the world economy. The assumption of most executives, academics, and policymakers is that despite strong U.S. economic growth, the dollar will continue to fall, particularly against the euro.
That concern was heightened last year in November when data from the US Treasury Department showed that there is sudden drop in the net capital inflows into the United States, reducing from $50 billion during the month of August, to about $4 billion in the month of September. Further analysis of the data showed that such selling were not primarily coming from only foreign private accounts, rather they emanated from foreign private accounts and Hedge Funds.
The massive US government deficit may exacerbate the dollar decline further against the Euro, according to Alan S. Blinder, professor of economics at Princeton University, the view of many of the attendees of the Davos conference is that the dollar would likely lose 10% to 20% more value against the euro over the next year. That would mean from $1.27 on Jan. 23 to between $1.40 and $1.50 in early 2005, according to Blinder Experts think China could benefit a lot more from the declining dollar, last year China had a net inflow of $52 billion and projections are that if the dollar continues to fall, new money inflow to China could reach $150 billion in 2004.
According to Victor L. L. Chu, chairman and CEO of First Eastern Investment Group, a Hong Kong-based fund, weaker dollar could attract even more money to China, but China could find it hard to absorb so much money Chu said. Moreover such strong inflows into China could also have a destabilizing effect on other nations in Asia, and could potentially set the stage for another currency crisis in the Asian region.
There is also the question of whether foreign countries particularly Asian nations would continue to hold their foreign currency reserves in dollar? Countries such as Japan, Hong Kong, South Korea, Taiwan and China have significant percentages of their foreign reserves in the dollar; would these nations devote less of their foreign reserves to the dollar? There is another element adding to this equation. Such decisions sometimes are influenced by political considerations as well.
It is not anticipated that foreign nations would sell off their dollar denominated foreign reserves; foreign central banks may also consider the issue of stability of the US market as opposed to immediate short term gains which may result from such sales. In fact there are evidence that the selling in US securities may have peaked, according to Treasury Department latest data, while private foreign accounts sold $7 billion of US securities during October last year, they purchased $14 billion in November.
Some economist maintain that the short-term sales during the last quarter of 2003, was indirectly related to statements made by G7 officials, implying that the weaker dollar is acceptable, however, foreign purchases of treasury Securities have not been drastically affected. According to published reports, purchases of Treasury Security instruments by private investors have grown considerably. In 2003, private investors purchased a net of $57 billion worth of Treasury obligations versus $19 billion purchased by foreign private accounts and other foreign institutions.
According to Steven Englander, chief foreign accounts strategist at Barclays Capital, �There is just no sign that foreigners are leaving US asset markets�. On the long run, treasuries may be a good market to invest in 2004 because the US Federal Reserve policy makers have shown its lack of interest in changing US interest rates any time soon. Such inclination has helped US Government bond prices to increase, while the yields decreased. The weaker dollar is helping to boost US exports abroad, and with moderate inflation, the US equity and bond markets have not been adversely impacted. Should the European Central Bank try to drive the Euro down some economists ask? If such policy is implemented, through an interest rate cut, it would exert a downward pressure on the Euro, but like a double edged knife, inflation would be on the rise. Moreover the ECB has indicated that interest rate cut is not in its agenda for the foreseeable future.
European policy makers are more worried about the dollar decline and its potential impact on their fragile economy, they hope the US administration should initiate measures to check the dollar decline, but in an election year such policy may be difficult to implement.
Paul Oranika
Editor-in-Chief
HedgeCo.Net
editor@hedgeco.net
