FUTURE OF US DOLLAR

The global economy is slowly emerging from the worst recession in seventy years. Strikingly, these seven decades coincide with the US dollar's reign as the world's dominant currency for trade and central banks' reserves. The financial crisis exposed some long-brewing global economic imbalances, and it has cast the US dollar's exalted status into question as never before. Andreas Hofert Global Head Wealth Management Research

Factors Battering $ US Twin Deficit. Growing Competitors. Global Imbalances. Undervalued Exchange Rates. Relative Differences in Growth & Inflation

US Twin Deficit Trade Deficit : $ 700 Billion per year. Budget Deficit : $ 200 Billion per year. Cumulative Budget Deficit : $ 9.2 Trillion which equals to $ 30,000 of debt per person.

Growing Competitors The greenback is likely to weaken against the emerging-market Counterparts. (Pacific Investment Management Co.) Consider the transformation of “old“ Europe. A handful of Western European economies have formed an economic union with a combined output now rivaling that of the US. The broad reduction in capital controls is another development that increases competition for the US dollar. The long run value of all paper currencies is zero. So why should the dollar be any different. (Bill Bonner)

Global Imbalances Acute global imbalances will weigh more on the US dollar than on the currencies of most other advanced economies. The liquidity needs of financial market participants generally benefit the most widely traded currencies the dollar, euro and yen; oftentimes this advantage will accrue at the expense of one or both of the other two. Foreign-exchange stockpiles have almost tripled to $5.7 trillion since the beginning of the decade. China alone has $1.4 trillion of reserves. Japan's $1 trillion or so make it the second-largest holder. The Euro zone economies will continue to consolidate and converge, and, in time, the euro will likely become a close substitute to the US dollar in the eyes of international investors.

Undervalued Exchange Rates The policy stance of many emerging market countries to peg their exchange rates to the US dollar at grossly undervalued levels. These rates ignore, for example, the productivity gains these emerging economies have enjoyed over the last decade and longer. They have gained considerable competitive advantage by keeping their currencies more or less fixed versus the USD while their production capacities have increased.

Relative Differences in Growth & Inflation With currencies, everything is relative. US is heavily exposed to the housing crisis and debt accumulation With limited scope to grow their way out of their debt problems, and deep political resistance to either raise taxes or cut government-funded services, US may keep policies in place that could lead to sustained budget deficits and trigger higher inflation expectations down the road.

Sometimes, when things seem to have gotten their worst, I think that things could not get any worse, and pretty soon I am thinking to myself “What in the hell are you thinking? Of course it will get worse! It will get worse because the government is deficit-spending trillions of dollars, the Federal Reserve is creating massively more money to accommodate it, and, nightmarishly worse, the same, sad, stupid, suicidal scenario is being played out around the Whole Freaking World (WFW), all of which means that inflation in consumer prices will soar and – at best! – things will get worse. Richard Daughty

Is The Fairy Tale Over ? The US dollar is slowly losing its dominance as the principal international reserve currency, but the dollar’s widespread use as a medium of exchange in international trade is not threatened. Tried & tested. Making of a reserve currency. The strong not only survive, they thrive.

Conclusion America's grim balance sheet will weigh on the $ for the foreseeable future. US will face higher inflation than other countries, further disadvantaging the $. Pegged & Quasi-pegged exchange rates inflate demand for $ worldwide. Emerging market currencies will step up against $ in the future. However, there is no single substitute for the dollar on the horizon, & so many countries have their savings in dollars, a dollar collapse would be universally resisted.

References The Future of US Dollar ( UBS Research Focus) An End to Currency Manipulation (Bret Swanson) The Falling Dollar (Economist) The Dollar - Is Free Fall Over (Richard Kapsch) The Diminishing Dollar (Economist) Has the King Lost its Crown (Bill Bonner)