July 25, 1994
"Clinton's Dollar Dithering Incites Volatility"
San Jose Mercury News
By Timothy Taylor
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SINCE mid-June, the exchange rate value of the dollar has fallen 5 percent.
For the first time in modern memory, a U.S. dollar buys fewer than 100 Japanese
But the slipping dollar isn't yet a critical problem: in mid-1992, the overall
exchange rate with major currencies was actually 10 percent lower. The real problem
is that we don't know what we want the exchange rate to do or to be.
In the late 1970s, when the dollar was "too weak," it was often seen
as a symbol of economic decline, a doormat on which the world wiped its feet.
By 1985, after the dollar rose 50 percent, it was "too strong," because
it raised the costs of producing goods in America, and made it tougher for U.S.
firms to sell abroad.
By mid-1988, the dollar had fallen back to its 1980 level. However, the Clinton
administration had apparently drawn a lesson: that a weak dollar should be encouraged
to help U.S. firms compete abroad. On and off throughout 1993 and early 1994,
both President Clinton and his Treasury Secretary, Lloyd Bentsen, spoke out about
how a weaker dollar (or a stronger yen, which is the same thing) would be useful
in cutting the U.S. trade deficit.
This strategy had at least three practical flaws.
First, few economists believe that altering the exchange rate will fix the
trade deficit. Recent experience is clear. Even when the yen/dollar exchange rate
fell from 238 yen/dollar in 1985 to 128 yen/dollar in 1988, the United States
still had a huge trade deficit. Why should a bit of additional weakening have
any greater effect?
A trade deficit happens when a country consumes more than it produces, which
can only happen if it imports the extra consumption goods from abroad. The only
solutions for the U.S. trade deficit involve America consuming less and saving
more -- say, by reducing the federal budget deficit.
The second problem with a weak dollar policy is that it hurts American workers
and consumers. A weak dollar makes U.S. companies more competitive abroad -- but
it does so by cutting the buying power of the dollar wages that American workers
receive. A weak dollar is essentially the same thing as an inflated dollar: either
one buys less.
The third fault of Clinton's weak dollar policy is that it has led to upheaval
in financial markets. A self-fulfilling cycle begins: When presidents and Cabinet
members say that the dollar should drop, investors all over the world become less
willing to invest in U.S. financial assets, and then the dollar does actually
When the dollar slid in late June, the Clinton administration suddenly started
doubting that a weaker dollar was such a great idea after all. Since then the
Clintonites have issued a series of contradictory statements: sometimes calling
for a stable dollar, then saying the dollar is too low and should get stronger,
and sometimes still hoping (despite the experience of the 1980s) that a weaker
dollar will help fix the trade deficit.
These conflicting statements just incite greater volatility in global financial
markets. Instead of shooting its mouth off, the Clinton administration should
focus on assuring that exchange rates are fairly stable at a sustainable level.
Stability matters because international deals work better when business people
and investors have a pretty good idea of what currencies are going to be worth,
and can plan accordingly.
A number of economists and international organizations try to calculate what
exchange rate would be stable. These calculations recognize that day-to- day exchange
rates will bounce up and down, based on little more than rumors and trend-chasing
investors. But in the long run, the sustainable exchange rate is determined by
"purchasing power parity" -- that is, what a dollar will actually buy,
measured in those goods traded on world markets.
The present consensus of those calculations is that the dollar should get substantially
stronger; for example, perhaps reaching 135 yen/dollar. This goal could be accomplished
by lower Japanese interest rates (making the yen less attractive) and stable or
higher U.S. interest rates (keeping U.S. inflation low and making the dollar look
Moreover, lower Japanese interest rates would stimulate Japan's economy, and
a growing, consuming Japan -- even with a stronger yen -- is far more likely to
buy U.S. exports than a Japan in recession. Encouraging Japan to stimulate its
consumption with tax cuts would have the combination of effects: a stronger dollar
and weaker yen, but more demand for U.S. products in Japan.
Of course, it would be an embarrassing turnabout for the Clinton administration
to suddenly advocate a stronger dollar. But tinkering with a weaker dollar isn't
likely to fix the trade deficit or to help American productivity. A weak currency
is no way to lasting prosperity.
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