1. It appears that the dollar crisis has arrived:Meanwhile, on the dollar frontI missed this — it’s a week old — but still quite a quote:
“Sudden stop” is a term of art — it refers to crises, like those that occurred in various developing countries, in which the supply of foreign capital suddenly dried up — sometimes with catastrophic economic results.
That’s not likely to happen to the US — we don’t have the “balance-sheet currency-denomination mismatch that was rampant in Argentina before the 2002 crisis” — in other words, our foreign debt is in dollars, so a plunge in the dollar doesn’t cause an explosion of debt. Also, for now the sudden stop is only in private funds: foreign central banks are still buying dollars.
But it’s still sort of unnerving to see the long-awaited dollar crisis starting to unfold. http://krugman.blogs.nytimes.com/2007/11/26/meanwhile-on-the-dollar-front/2. So, what does this mean? Concerns about a dollar crisis can be divided into two questions:
Will there be a plunge in the dollar?
Will this plunge have nasty macroeconomic consequences?
The answer to the first question depends on whether there is investor myopia, a
failure to take into account the requirement that the dollar eventually fall enough to
stabilize US external debt at a feasible level. Although it is always dangerous to
second-guess markets, the data do seem to suggest such myopia: it is hard to reconcile
the willingness of investors to hold dollar assets with a very small premium in real interest
rates with the apparent necessity for fairly rapid dollar decline to contain growing
foreign debt. The various rationales and rationalizations for the US current account
deficit that have been advanced in recent years do not seem to help us avoid the conclusion
that investors are not taking the need for future dollar decline into account.
So it seems likely that there will be a Wile E. Coyote moment when investors
realize that the dollar’s value doesn’t make sense, and that value plunges.
The case for believing that a dollar plunge will do great harm is much less secure.
In the medium run, the economy can trade off lower domestic demand, mainly the result
of a fall in real housing prices, for higher net exports, the result of dollar depreciation.
Any economic contraction in the short run will be the result of differences in adjustment
speeds, with the fall in domestic demand outpacing the rise in net exports.
The United States in 2007 isn’t Argentina in 2001: although there is a very good
case that the dollar will decline sharply, nothing in the data points to an Argentinestyle
economic implosion when that happens. Still, this probably won’t be fun.
http://www.economic-policy.org/article1.asp?src=bpl&aid=183&iid=51&vid=22&id=
