So does that mean that the Europeans are doing a worse job than the U.S., while the U.S. has the greatest demographic bulge coming to age for benefits, and A WAR? Holy Smokes!

Date:   11/9/2005 9:52:04 AM ( 19 y ago)

Dollar Hits 2-Year High Against Euro

By EDMUND L. ANDREWS
Published: November 9, 2005
WASHINGTON, Nov. 8 - The dollar rose on Tuesday to its highest level against the euro in two years, propelled by rising interest rates in the United States and rising pessimism about Europe.

The dollar's move, the latest in a climb that has been under way in fits and starts for months, continued the trend away from traders' fixation last year on the United States' large and rising foreign indebtedness. The dollar also gained strength against the Japanese yen.

But the steady rise of the dollar may not be an unalloyed cause for celebration on either side of the Atlantic. For Americans, the stronger dollar stems in part from expectations that the Federal Reserve will push interest rates higher than investors had previously thought. And if the dollar's rise continues, it is likely to make it harder for American manufacturers to compete in world markets, increasing political pressures to protect some industries from foreign companies.

For Europeans, the decline of the euro reflects new gloom - possibly aggravated by 12 days of rioting in poor neighborhoods across France - about growth in the euro zone's biggest economies. Germany, France and Italy, which together account for more than half of the euro zone's economic activity, are growing at barely 1 percent or less this year. Aside from the riots in France, Germany remains bogged down in a political stalemate that has greatly reduced the chances for a long-promised overhaul of economic regulations.

The euro has declined by nearly 5 percent against the dollar since August, but its slide became more pronounced about a week ago. On Tuesday, the euro dropped briefly to $1.1711, slightly lower than its value at the time of its inception in January 1999.

Robert Simche, chief currency strategist at Bank of America, said the dollar's surge stemmed primarily from expectations of higher interest rates in the United States, which have been moving up while rates in Europe and elsewhere around the world have stayed relatively low.

"It is hard to find a period in the last 5 or 10 years when expectations about future interest rates been so dominant in the foreign exchange markets," Mr. Simche said. "It's become the dominant issue." Higher interest rates attract investors and tend to drive up a nation's currency. The Fed has been pushing up short-term rates in small steps ever since June 2004, but many investors had been betting that it would pause once rates hit 4 percent or so - especially when energy prices surged after Hurricane Katrina.

But Fed officials have delivered a raft of speeches over the last month that emphasized their concerns about rising inflation and a determination to avoid a return to the "stagflation" of the 1970's.

Fed officials have also been buoyed by signs of continued strong growth, despite soaring oil and gas prices and the devastation caused by Hurricane Katrina.

Alan Greenspan, the Fed chairman, told a Congressional committee last week that the outlook for growth and employment was fairly good but that inflationary pressures were building.

The prospect of higher interest rates appears to be trumping any investor anxiety about the United States' huge trade and financial deficits. The nation's imbalance in trade and investment with the rest of the world - known as the current account - is on track to exceed $700 billion, about 6 percent of the gross domestic product. That sum, which is financed by funds from abroad, is coming at the same time that American household savings rates have plunged to zero.

Asian central banks have financed much of the United States' borrowing; the central banks of Japan and China now hold more than $1 trillion in dollar-denominated securities between them.

Yet for all the talk about global imbalances, demand for dollars has yet to falter.

"All the talk about U.S. current-account deficits hurting the dollar has vanished from the markets," said Carl Weinberg, global economist at High Frequency Economics, a forecasting firm in Valhalla, N.Y. The dollar has climbed 13 percent against the euro this year. The euro's most recent peak was nearly $1.2587 in early September, about 8 cents higher than its value at the close of trading in New York Tuesday, $1.1785.

Though interest-rate differences accounted for most of the dollar's recent climb, analysts said the riots in France may have weakened the euro even further.

"The riots are definitely doing something," said Ashraf Laidi, currency analyst at MG Financial Group in New York. "It's the usual story of growing unemployment in the euro zone, social unrest that is at first attributed to ethnicity but is really about unemployment and the lack of jobs."

But the dollar has gained against other major currencies, recently hitting a two-year high against the Japanese yen and climbing sharply against the Swiss franc.

Analysts disagree about how much of the dollar's rise is part of a longer-term trend. Mr. Laidi, eyeing the United States' huge trade imbalances, predicted that the euro would climb back from $1.17 to $1.23 by the end of the year.

By contrast, Edward Yardeni, chief investment strategist at Oak Associates, predicted that the euro would continue to fall, plunging to just $1 within two years.

Many analysts and traders contend that the dollar's most recent rise stems largely from a one-time tax break that allows corporations to bring overseas profits back to the United States at a small fraction of normal tax rates.

Mr. Simche, from Bank of America, estimated that companies were poised to bring back as much as $85 billion and that two-thirds of that money could flow back in the final quarter of this year.

A stronger dollar reflects to some extent investors' faith in the American economy and helps keep inflation under control. But powerful movements in either direction also serve as a warning signal of potential economic problems ahead. Ian Shepherdson, who tracks the American economy for High Frequency Economics, predicted Tuesday that rising interest rates could lead to a crunch in the housing market and a slowdown in overall economic growth by the middle of 2006.



 

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