The Mystery of the Dollar
THE TEXTBOOK says that when a country runs a large foreign deficit, its currency will fall. That discourages imports, boosts exports and brings the foreign accounts back into balanceÛÓall very neatly and rationally. So why is the dollar riding high? Last Friday, the United States announced its third unprecedentedly large monthly trade deficit in a row, and the dollar has been rising cheerily ever since.</br></br>This phenomenonÛÓthe Mystery of the Buoyant DollarÛÓ-deserves the attention of more than the writers of textbooks. The exchange rates affect the way the whole economy works, starting with the inflation and employment rates. ThereÛªs an explanation of the current mystery, but itÛªs not entirely reassuring.</br></br>The deficits in this countryÛªs international current account began to get spectacularly large last summer, but there was no impact on the dollar. It was kept up by the extraordinary flow of foreign money into this country. When this country runs a big foreign deficit, Americans normally have to sell dollars to buy the yen, deutsche marks, pounds and so forth to pay their creditors abroad. ItÛªs the process of selling the dollars that drives the price down. But over the past year a lot of those foreigners decided that theyÛªd rather leave their money here, in dollars. That made the dollar exchange rate immune to the current account deficit.</br></br>a point at which businesses and investors abroad decide that they have accumulated enough dollars, and they begin to move into other currencies. That started to happen in January, and with slow dignity the dollar started to walk down the stairs. Then, in March, it unexpectedly turned around and walked back up. At one time this week it was higher against the British pound than it has ever been.</br></br>The turnaround was caused by the rise in the American interest rates. A borrowing boom is under way in this country, and interest moved up a notch in March. It is genuinely astonishing to see the amounts of money that move from one countryÛªs banking system into anotherÛªs with even rather small changes in interest rates.