Why is the US dollar falling?

No one knows. Last Thursday, the day before Trump’s scheduled arrival for the World Economic Forum’s annual meeting at Davos, Treasury Secretary Steven Mnuchin endorsed the dollar’s decline and said that its short term value was of no concern.

“Obviously a weaker dollar is good for us as it relates to trade and opportunities,” Mnuchin told reporters in Davos. The currency’s short term value is “not a concern of ours at all,” he said.

“Longer term, the strength of the dollar is a reflection of the strength of the U.S. economy and the fact that it is and will continue to be the primary currency in terms of the reserve currency,” he said.

Enda Curran and Jan Dahinten, “Trump Team at Davos Backs Weaker Dollar, Sharpens Trade War Talk“, Bloomberg Markets, 24 January 2018.

Mr Mnuchin was criticised for his statement, and many pundits blame both him and President Trump for the dollar’s decline. FT columnists Chris Giles and Michael Hunter defend Mnuchin and explain that his views are very conventional, taken straight from Economics 101. They are correct. Economists are unable to explain, let alone forecast, fluctuations in the price of currencies.

All financial forecasting is hard, but currencies are particularly challenging. Stock analysts can focus on earnings, credit analysts can study collateral and free cash flow, while commodity forecasters can estimate how supply and demand will evolve.

There is nothing comparable for currency analysts to look at. Anyone who has lost money betting on the strength of the Brazilian currency knows real interest rates are a poor guide. Those who have blown up betting against the Swiss franc should know to avoid relying on international measures of purchasing power.

Chris Giles and Michael Hunter, “Mnuchin backs weaker dollar in break with tradition“, Financial Times, 24 January 2018 (gated paywall).

 

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