The NYT is upset again that the dollar is falling and once again it is blaming President Bush's budget deficits. This turns economics on its head. The story on budget deficits is that they lead to higher interest rates in the United States. This causes the dollar to be worth more than would otherwise be the case. In other words, the NYT's complaints just don't make any sense. They can say lots of bad things about Bush's tax cuts and his war-related spending, but it just doesn't make any sense to blame them for the decline of the dollar. The dollar is declining for a simple reason -- it was over-valued. The United States had a trade deficit that exceeded 6 percent of GDP at its peak. This was not sustainable, as just about all economists recognized. There are two ways to reduce a trade deficit: a recession or a fall in the dollar. Unless the NYT prefers a prolonged recession, it should applaud the fall in the dollar as part of a necessary adjustment process. The reality is that the high dollar policy initiated by Robert Rubin in the Clinton presidency was a short-term policy that temporarily allowed for higher U.S. living standards by making cheap imports available. (It also had important distributional effects, depressing the wages of less-educated manufacturing workers who are subject to international competition, while raising the real wages of highly educated professionals, who are largely protected from competition.) However, the trade deficit that resulted from the high dollar was unsustainable over the long-term, just as a large budget deficit is unsustainable. The Clinton-Rubin high dollar policy is to blame for the current decline in the dollar, not President Bush's tax cuts. [Addendum: I just remembered one of the policy levers which would almost certainly help bring down the value of the dollar and eliminate a costly barrier for consumers. The government could allow banks and other financial institutions to offer saving accounts denominated in other currencies. As it is, it is very inconvenient for a typical middle income person with a modest sum to invest (e.g. $10,000 to $40,000) to hold foreign currencies. If the government didn't prohibit the practice, small savers could just go to their local bank and have a saving account denominated in yen, euros, pounds or other major currencies. If a saver had put their money in euros back in 2002, they would be more than 50 percent richer today. If the "free traders" actually were concerned about free trade, they would have focused on eliminating this wasteful restriction on currency trading long ago, instead of focusing on much less consequential barriers to merchandise trade.]
--Dean Baker
