A weak dollar has global implications in derailing the world economy. The Federal Reserve Bank chairman's measured increases in the interest rates and the deliberate "weak dollar" policy followed by the US government have posed a challenge to the European and Japanese central banks. The critical issue here is the way the twin deficits of the US government are to be tackled. The European Union and Japan are advocating restructuring of the domestic deficit and using dollar depreciation to tackle its current account deficit.
Economists and financial analysts the world over, in November, were concerned about the crude oil prices, as the US economy was not showing any signs of recovery, and Allen Greenspan was stubborn in his "measured" increase in the interest rates. However, by the first week of December, it was the weak dollar that was worrying the world economy, rather than the crude oil prices. By then, the dollar depreciated against major world currencies like the euro and the yen, and reached a historical low. In the last three years, the dollar declined by 35% against the euro, and 24% against the yen. The major concern for the world financial system was what this fresh decline in the "dollar power" would mean for the status of the dollar as the "world's reserve currency". Jean-Philippe Cotis, Chief Economist, OECD, paints a grim picture in Outlook released on November 30, 2004, about the possible growth prospects for the OECD countries and the world economy. The downward slide of the dollar, rather than the price of oil, is the worrying factor for the economic growth of the OECD. The USA, Japan and the European Union are not agreeable to what extent the dollar should be allowed to depreciate in order to overcome the USA's current account deficit problem. The US believes that a weak dollar will help in increasing its exports, and thus in reducing its trade deficit, which is a concern for the world economy. On the other hand, the European Union and Japan are worried that a weak dollar would mean a strong euro and yen, which make their exports to US costlier, and hence their exports and the economic growth would come down. Japan and especially the European Union, will lose the "competitive" edge over the US. The European Union and the Bank of Japan are keeping a close watch on the movement of the dollar, but are not sure when to intervene and stop the slide of the currency. Since 2001, the global economy has been growing at a very slow pace, and when the economic recovery was imminent in 2004, oil prices derailed the growth prospects. Coupled with this, the depreciating dollar is further making the recovery process less likely in the near future. In order to understand the significance of the dollar in the world economy, the causes for the present decline and its consequences, it is essential to know how the value of the dollar is determined. |
