The realtive strength of the US Dollar

The sub-prime melt-down resulted in the downward journey of the US Dollar. But the journey that appears to have fathomless bottom does not seem to be so apparent to me. It all started when the sub-prime melt down sparked a credit crunch battering the US market (read US $) from every direction.

US has tried and maintain strength in its currency since long time even Secretary Paulson believes that a strong dollar is in the nation's interest. Strong US currency enables the major exporting countries like China, Japan, Sweden and the likes to enjoy the favorable exporting environment and maintain the demand of their product internationally, given everything else equal and also with strong currency it is favorable for US to import. But contrary to what the US and the other economies have tried to maintain so far, the dollar has been weakening Vis a Vis Euro, Yen, Rupee, Canadian dollar et al.This structural weakness in US dollar disturbs the long followed equation relating to the trade between the major exporting countries like China, Japan etc and their main destination –US

I agree that the further weakness in the US dollar is imminent but it is not the phenomena that will take place during this year, it’s a long term process and I feel so because the relative weakness of the US dollar is not so simple and straight forward as it appears.
I have numerous reasons to attribute to my belief. Firstly the major export-oriented economies like China, India, which are the few countries forming the backbone of thriving emerging markets, are mighty sensitive to the market conditions due to which the Government intervention in their currency is very likely, which will aim to keep the competitiveness of their exports intact to continue to enjoy overseas market. Case in point is India which is trying hard to maintain the weakness of the Rupee against the US Dollar.

Secondly, if the government does not intervene like in case of Japan (elaborated shortly) then it will mar its economy making it less desirable destination for investment. Japan being the fourth largest exporter of the world is obviously affected by the weakness in US dollar against Yen but Japan has so far not intervened but it might once the US dollar and Yen exchange rate falls below a certain level or it will hurt the economy. Either case the , it will lead to a weaker Yen. Take for another example, Canada, which, few weeks back was mulling over the idea of pegging their currency with the US dollar and hence prevent Loonie to soar against the US currency and also they might try to adjust their interest rate in lock step with that of US to maintain the competitiveness of their exports. Canada might not peg its currency but these ideas from their direction gives an indication that glory of US dollar is not yet over. Last but not the least, Euro region is giving signals about the weakness or slow down in their economies, which might further lead them to decrease their interest rates, which makes me to believe in the relative strength in US dollars.

Now, I am sure many of you have questions that what about the strong internal demand and momentum of emerging economies like India and China? But having mentioned the reasons for testifying the relative strength of the US Dollar, I think US dollar will remain more or less flat for this year and it does not mean that US dollar is invincible but it will resist the weakness as of now. Infact the world economies as a whole are undergoing a structural change, which is not so much in favor of US dollars. This transitory period is a very long term process and that process that has already set out.Hence, I think that US dollar is expected to get weaker but for the year, I expect it to stay more or less resistant to a steep weakness.
(This analysis of the transitional period of the economies and its winners and losers would be the focus of my next blog which will be posted soon.)