Americans expect stable dollar

(January 5, 2005) The wild gyrations of the U.S. dollar, which became the hallmark of 2004, may be coming to an end, according to one U.S. economic think-tank. While profitability and investment outside the U.S. will likely diminish, U.S. prices and interest rates are expected to remain unaffected by the dollar’s international exchange rate.

“Many of the underlying flows that have driven the dollar down are likely to reverse,” says Gail D. Fosler, executive vice-president and chief economist of The Conference Board. “To the extent that the resulting patterns in 2004-2005 resemble the 1994-1995 period, the dollar is not likely to fall further. It is more likely to rebound if global growth slows, as is projected next year.”

The Conference Board is calling for growth to be concentrated in the first half of 2005, possibly extending to the third quarter before tailing off before 2006 — a period the Board calls “fraught with risk.”

The think-tank predicts a peak in industrial activity in the first six months of 2005, pointing out that the world is essentially synchronized, with the developed economies following the U.S. lead and Asia operating on a similar, though more independent, cycle.

The Conference Board questions whether another currency will have the staying power needed to supplant the U.S. dollar as the world’s preferred “store of wealth,” predicting a financial crisis elsewhere will drive investors back to America.

Driven by feverish investment in Asia, traditionally higher-yielding long-term bonds in Korea, Singapore and Taiwan are now offering yields below those of U.S. Treasuries.

“An economic showdown in Asia, even if it is disguised by speculatively driven investment, will change relative economic and financial outlooks in fundamental ways,” says Fosler.

As the U.S. dollar has fallen, it has forced currencies around the world to rise in relative value. The effects have been mixed for Canadians, as investments in the U.S. have depreciated and exports have become less competitive. But at the same time, American interest in our markets has been stoked.

“This is an experiment that the Canadian economy has never been faced with,” says Avery Shenfeld, senior economist with CIBC World Markets. “You never had this sort of two-year appreciation in our currency, so you can’t go back in the files — the way economists like to — and see what happened the last time the Canadian dollar did something like this.”

He says foreign central banks are already starting to look elsewhere, as the Bank of Canada seeks to rein in the loonie. “Maybe they should look at countries where the foreign central bank is not so worried about further currency appreciation.”

A survey conducted by Pollara Inc. found that 50% of Canadians believe the rising loonie has had a negative impact on the Canadian economy, while only 43% believe it has had a positive impact. Interestingly, the same percentage said it had a positive impact on their personal finances, compared to 23% who said there was a negative impact.

The poll also found Canadians were optimistic about the economy, with 62% saying the country was in a period of growth and another 9% characterizing it as “strong growth.” The total of 71% is 11 percentage points higher than last year.

Just over one quarter (26%), said they believed the economy was not growing, though, with 23% saying Canada was in a mild recession and 3% saying we’re in a “severe” recession.

One third of respondents (34%) said they felt they were losing ground financially over the past year, while 23% said they were gaining ground and 42% were “holding their own.”

Filed by Steven Lamb, Advisor.ca, steven.lamb@advisor.rogers.com