56 | US DOLLAR WORDS | Smart Currency
The US Dollar is the benchmark of global currency – over the last decade, as the world’s economy has seen tumultuous ups and downs, so has the greenback. Smart Currency take us through the rollercoaster of the last decade and explain where we – and the dollar – stand as the waters begin to calm across the pond
The world’s currency W
hat a decade we’ve had from 2002-2012. The fi rst fi ve years saw a period of boom
as the tech bubble collapse was soon forgotten and it seemed that anyone with a pulse could borrow, irrespective of the amount they earned. The second fi ve years has been one where the banks seem to be only willing to lend to people and businesses that don’t need to borrow, as balance sheet repair becomes the focus of the banking sector. And who was the forefront of this boom and bust? The United States of America. I think it is important to highlight that the US dollar is viewed as the world’s reserve currency. Three reasons for this: fi rstly the US economy is the world’s largest, and as such its trading partners span the world; secondly, investors throughout the world hold a huge amount of US government debt as they view this debt as a safe port of call when troubles affect the world’s economies; and thirdly, because of the size of the US economy a lot of goods, such as oil and gold, are priced in US dollars as a matter of course. So what is the effect of the US dollar being a safe haven asset in times of trouble? In a counter-intuitive way, the US dollar weakens when times are good
and strengthens in times of diffi culty. This is irrespective of how the US economy is doing. To illustrate this, in the years 2002 to 2007, we saw the US dollar weaken from the US$1.50/£1 level to over US$2.10 in 2007, a depreciation of nearly 30% over fi ve years. We also saw the euro depreciate by over 35% in the same period, moving from US$0.95/€1 to just under US$1.50/€1. And all the while, the US economy was booming.
Property prices were booming throughout the world and it seemed that prices would continue upwards come what may. Then the US fi nancial system (and that in the UK) hit a brick wall. The US bank Lehman Brothers was allowed to go bust, a decision I expect that in retrospect, the US government wouldn’t have allowed to happen given the fallout that extended far and wide. It seemed that every week we saw another fi nancial institution being bailed out either side of the Atlantic. This is when we saw the US’s safe haven status come to the fore. There was an immediate and dramatic effect on the Sterling/US dollar exchange rate, with the dollar regaining lost ground and even at one stage falling below
EUR USD Exchange Rate 2012
1.34 1.32
1.3
1.28 1.26 1.24 1.22
1.2 1.18 Standard | Businesses across the world understand the Dollar’s language
US$1.40/£1. As noted earlier, the UK fi nancial system was just as badly affected by the bust, with many UK banks effectively being nationalised, but the UK does not have the same status amongst international investors of being a safe haven asset. The effect on the euro/US dollar exchange was less dramatic. Although we have seen the euro weaken
slightly, it has only been to around the US$1.30/€1 level. There seems to be a number of reasons for this. The size of the eurozone means that as an economic unit, it is of a similar size to the US, which means that it has a signifi cant position in the world’s economy. Also, the eurozone benefi ts from the strength of the German economy which continues to export more than it imports and as such means that overall, the eurozone is neutral when looking at its balance of payments. It also benefi ts from the European Central Bank’s ability to keep funds available to individual states. So what is happening now? Over the last two years, we have seen the range in which the US dollar and Sterling trade narrow signifi cantly. In 2011, the range narrowed to a range of US$1.67 to 1.53/£1, and this year we have seen an even narrower range of US$1.63 to 1.53/£1. So some stability seems to be returning. Both countries have resorted to a programme of quantitative easing, which means that the central banks pump money into the economy. Although noone is quite sure of the long-term effect of this, it has helped the economies to stabilise, with major shocks to the fi nancial system being reduced.
However we have seen a different
reaction between the US dollar and the euro, with the US dollar strengthening signifi cantly in 2011 moving from
FX
www.opp-connect.com | DEC 2012/JAN 2013
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