China, Russia may sell off their dollar-denominated assets; E.U. adjusts interest rate
The U.S. dollar fell 2 percent against the euro over the past two weeks, hitting its lowest exchange rate since March last year. The decline is expected to continue for the time being, as U.S. fiscal policymakers accept the weak dollar as a way to narrow current account deficits. In a related situation, the gap in interest rates between the E.U. and the U.S. is expected to narrow, as well. The dollar fell 1.8 percent from a week ago to trade at 1.3331 dollars per euro as of December 1 local time at the New York Foreign Exchange Market. Over the past six months, the dollar hovered between 1.25 and 1.3 dollars per euro. But last week, the dollar fell to 1.3 dollars per euro and plunged to 1.33 dollars per euro in four days. The Japanese yen, which has strengthened against the dollar since October, rose 0.5 percent to 115.33 yen per dollar. This year, the European Union posted its highest economic growth rate since 2000, and the trend is expected to continue next year. As a result, demand for the euro as an investment asset is growing. On December 7, the European Central Bank is almost certain to increase its interest rate to 3.5 percent from the current 3.25 percent over inflationary worries.With the U.S. interest rate at 5.25 percent, the gap between rates in the U.S. and the E.U. keeps narrowing. China - which has more than 1 trillion yuan in foreign exchange reserves - Russia, and Sweden are signaling that they may diversify their foreign currency holdings, citing uncertainty over dollar-denominated assets. The nations had bought the dollar to protect their foreign exchange rates and invested in U.S. Treasury bonds, which had helped the dollar sustain its value up until its continued slip in recent months. U.S. Finance Secretary Henry Paulson had previously expressed that a strong dollar helps the U.S. economy, but he has kept mum on the recently weaker dollar. Experts say the U.S. side is welcoming a strong euro because it raises price competitiveness for U.S. exports to Europe. The U.S.'s National Association of Manufacturers diagnosed that the U.S. trade deficit with Europe will reduce to US$95 billion this year, from $100 billion last year. The weak dollar is also expected to continue given the E.U.'s robust economic growth. The Financial Times reported that attention is being focused on whether the European Central Bank's governor, Jean-Claude Trichet, will signal an additional hike in the interest rate next year. If the U.S. lowers its interest rate during the first quarter of next year, the dollar could fall to $1.40 per euro, the newspaper said. The Economist magazine expected the weak dollar to play a positive role in the global economy, by easing trade imbalances around the world and leading to a soft landing of the U.S. economy. The magazine also forecast that U.S. economic policymakers may focus on keeping the dollar weak, while avoiding any sharp drops in the dollar that would cause investors to dump their dollar-denominated assets. As well, emerging markets such as China, which owns an astronomical amount of dollars, will be damaged if the dollar continues to lose its value. However, as opposed to the conventional belief that the U.S. economy will have a soft landing, if the housing market sharply cools, some observers worry that the dollar may see a sharp drop in value as U.S. monetary policymakers may cut the interest rate to compensate. In that case, the U.S. economy would likely fall into a recession, posing risks for the global economy. Please direct questions or comments to [englishhani@hani.co.kr]
