[Skip to the end]

“Australia’s central bank has intervened to support the tumbling Australian dollar, but failed to prevent its slide to five-year lows against the U.S. currency and its deepest-ever trough against the yen. “

This intervention has two purposes.

One is to keep the decline orderly, the other is anti-inflationary, as the apparent collapse in the currency is immediately passed through to import prices, which play a major role in domestic consumption.

The problem in using intervention to support one’s own currency is that reserves get depleted before the desired level of the currency is achieved.

One core issue is declining real terms of trade due to falling prices of Australia’s exports vs. the prices of their imports.

The other issue is internal distribution.

Australia digs and exports coal, for example, and the boats return full of consumer goods.

A falling currency alters distribution of consumption to those residents in export industries and away from the rest of the population.

The recent US history:

Over one year ago Paulson successfully got foreign CBs to stop buying dollars.

That, along with rising crude prices, sent the dollar to its subsequent lows.

He did this by calling CBs buying dollars currency manipulators and outlaws, insisting they let markets decide currency values.

This was a thinly veiled ploy to get the dollar down to spur exports, as articulated by the Fed chairman in subsequent congressional testimony.

It ‘worked’ as US exports grew at record pace and US GDP muddled through at modestly positive numbers. (A nation net imports exactly to the extent non residents realize their desire to accumulate its net financial assets, as discussed in previous posts)

It also caused a punishing decline in real terms of trade for the US and a decline in the US standard of living, but that was less important to policy makers than ‘pretty trade numbers’ and sustaining domestic demand via sufficiently supportive fiscal policy.

This all caused demand to fall overseas, as governments were (and for the most part remain) in the dark as to sustaining domestic demand, and their economies were directly or indirectly connected to exports to the US.

After Q2 this year rising US exports and falling non-petro imports broke the back of world economies and it has all come crashing down.

Falling crude prices due to ‘the great Mike Masters sell off’ (that I’m still waiting to run its course, and which last week’s OPEC cuts may be signaling), also made dollars a lot tougher to get and created a dollar squeeze on a world that had quietly gotten strung out on dollar borrowings.

Accumulating USD by non-residents to pay off debt in the private sectors is working to strengthen the USD the same way foreign CB accumulation had done.

It is bringing down their currencies and will eventually support foreign exports (at the expense of their real terms of trade, but that’s another story).

The US trade gap will fall substantially for a while as crude prices work their way into the numbers.

But then, should world private sector dollar ‘savings’ get rebuilt via USD debt reduction, make foreign goods cheap enough for US imports to once again start to grow.

A substantial increase in US domestic demand via deficit spending (which should be forthcoming with an Obama presidency and democratic control in both houses of Congress.) can restore domestic output, employment, and US imports, to restore our standard of living to pre-Paulson levels.

If we have a policy that drops energy imports, otherwise we can give it all back in short order.

But that’s all getting ahead of one’s self.

For now, the strong dollar seems to be giving foreign CBs, like the RBA in Australia, an inflation scare even as their economies weaken, housing prices sag, and unemployment rises.

This is typical of emerging market economies- external debt burdens high inflation due to weak currencies (due to debt service from the external debt- they need to sell local currency to meet their external debt payments) high unemployment deteriorating real terms of trade as export prices fail to keep up with import prices.

Again, sorry for the earlier mix-up. Need to get my eyes checked!


17 Responses

  1. “Over one year ago Paulson successfully got foreign CBs to stop buying dollars.”

    Wow Warren, that paulson guy is even more powerful than your buddy Mike Masters if he got that to happen. Can you elaborate how those russia boyz and euro boyz and asia boyz are all so wimpy and do whatever one baldie GS guy DEMANDS of them? I don’t get it.

    I have my doubts hammerin hank even with a nuclear bazooka could make billions of other human beings bend to his will – yet john snow and others before him were total failures. I think you and I are gonna have to disagree on why foreign CB’s stopped buying dollars – one corrupt crony GS guy getting russian and asian and all kinds of other people to do what he says just doesn’t add up in my book – why do you believe all this rest solely on hammerin hanks shoulders?

  2. “If we have a policy that drops energy imports, ” I watched boone pickens talk about natural gas, some guy at his speech said brazi was converting all thier trucks for less than 600 US dollars. Pickens just wants to convert the semi’s and help the transport industry first and convert the trucks. I wonder though warren – on the USVI – how will you get lotsa natural gas? Pickens can set up pipelines all over the USA – but are there any NG undersea pipelines running to all you supercar boyz in the USVI – have you looked at modifying the mosler supercar to be NG? What good will that USVI oil refinery be if everyone starts using NG? Pickens was pretty confident that whoever the next president is – within 100 days of the new presidency we will have a NG initiative from the gubbment.

  3. Obamanomics policies as I can tell don’t include running deficits but rather raising taxes on the rich to “spread the wealth” to the poor.

  4. I think Warren was pointing out that its not just Obama in charge, but a totally democratic congress as well. We get balanced budgets with divided government, since neither party will let the other spend on what it wants. One party government leads to running deficits, since there is no check.

  5. let me restate to say if he doesn’t proactively run up the deficit pronto, market forces will continue to do it for him via falling revenues and rising transfer payments, until it’s large enough to turn things around.

  6. “market forces will continue to do it for him via falling revenues and rising transfer payments, until it’s large enough to turn things around.”

    Is that so terrible? Letting market forces work instead of a bunch of econ engineers? Engineers built the titanic, a silly religious nut built the ark – which one sank?

    Warren I knew I could ask a econ history guy like you if any roman politician ever said something so silly – certainly they knew back then that deficits were good for Rome – the quote below can’t be true:

    “The budget should be balanced. Public debt should be reduced. The arrogance of officialdom should be tempered, and assistance to foreign lands should be curtailed, lest Rome become bankrupt.”
    Marcus Tullius Cicero 69BC

    If it is true, why did makind enter the dark ages after the fall of rome, didn’t their monetary attempts to keep the empire growing leave REAL improvement for the world? It’s like this show I watch called Stargate Atlantis, how come after the ancients built the great flying cities and stargates they went away and all that was left was monkeys throwing sticks at each other?

  7. “The budget should be balanced. Public debt should be reduced. The arrogance of officialdom should be tempered, and assistance to foreign lands should be curtailed, lest Rome become bankrupt.”
    Marcus Tullius Cicero 69BC

    Not sure if Rome was using fiat money. This quote seems pretty inapplicable to our budget deficit situation today.


  8. agreed with Tom

    also, markets function only within man made institutional structure which therefore necessarily influence outcomes

  9. W, noticed brazil is doing the same thing as far as defending the Real.
    Do they have enough USD reserves to ride it out or will the Real collapse as reserves run dry?

  10. Has there ever been a successful “defense” of a currency? We’ve seen this story so many times before, why do they keep on trying?

  11. Well, as far as I know the only CB that has ever really been able to maintain a peg is HK, and that’s because it essentially maintains reserves at 1 for 1. Anything less than that, and Soros types can gang up on you> I don’t know what sort of reserves the aussies have, but I doubt its enough…

  12. Agreed they won’t hold up the currency unless/until commodities go backup and they start building reserves through that channel.

    HK is a currency board arrangement that results in 5-10% gdp drops in a single quarter now and then during the ‘deflation’ phase along with the kinds of real estate collapse we would call catastrophic, massive drops in employment, etc. as the currency board arrangement results in whatever deflation it takes to drive up net exports to sustain the domestic ‘money supply.’

    see ‘exchange rate policy and full employment’ at http://www.mosler.org

  13. The buying of one’s own currency is almost always a sign of desperation by the politicians. When has it ever worked? More window dressing than anything else. It gives the appearance they are trying to fix things. Maybe its better than doing nothing??

  14. right, pretty much never ‘works.’

    while selling one’s currency can always ‘work.’

    not that either is likely to be in the national interest of sustaining output and employment, and optimizing real terms of trade.

  15. I wonder, Warren, if you’ve ever read any of jane Jacob’s work? She was a big advocate for small currency areas, restricted to metropolitan regions if possible, to maintain the currency value at the proper relationship to the local economy. I don;t think she knew all the ins and outs of reserve operations, but she had a phenomenal intuitive grasp of the working of economies…

Leave a Reply to warren mosler Cancel reply

Your email address will not be published. Required fields are marked *