U.S., Europe may be happy with dollar's new decline

Paulson and Trichet Mum
As Falling Dollar Gives Help

By Matthew Benjamin and Simon Kennedy
Bloomberg News Service
Tuesday, April 10, 2007

http://www.bloomberg.com/apps/news?pid=20601103&sid=ab4j1z8k4ICI

The dollar's slide may be coming at the right time for U.S. Treasury Secretary Henry Paulson and European Central Bank President Jean-Claude Trichet.

American exports, made more competitive by a weaker currency, are helping prop up economic growth, offsetting slumps in housing and corporate spending. The euro's 2.5 percent gain since the end of January, meanwhile, should help Trichet combat inflation, complementing the ECB's interest-rate increases.

Europe's economy is better able to absorb any impact on its own exports, unlike in prior euro rallies that caused European central bankers and politicians to protest. The silence from Paulson and Trichet suggests ministers from the Group of Seven major industrial nations may avoid commenting on the dollar when they meet in Washington this week.

"It's a welcome development to U.S. policy makers, and it's still in a relative comfort zone for Europeans," said William Cline, senior fellow at the Peterson Institute for International Economics in Washington and a former Treasury official.

The dollar fell to a two-year low of $1.3442 against the euro on April 5, within 2 percent of the record low of $1.3666 set on Dec. 30, 2004. The dollar, which traded at $1.3427 versus the euro at 8:09 a.m. in New York today, has lost ground against the European currency in four of the past five years.

While Paulson, 61, has hewed to U.S. policy of the last decade by backing a "strong dollar," he has coupled it with a view that markets, not governments, set exchange rates.

That has allowed him to shrug off the dollar's decline, especially because it aids his nation's economy by making American products cheaper overseas. Exports are providing the U.S. with a needed boost after growth slowed to an average annual rate of 2.4 percent in the last three quarters of 2006, having expanded 3.2 percent in the prior year.

"For U.S. policy makers, a weaker dollar against the euro is not even on their radar screens as long as it's happening in an orderly fashion," said Marc Chandler, head of currency strategy at Brown Brothers Harriman & Co. in New York.

Treasury spokeswoman Brookly McLaughlin declined to comment.

A narrower trade deficit contributed 1.6 percentage points to U.S. economic growth in the last three months of 2006, the most in a decade, according to the Commerce Department. Exports to the European Union jumped 28.2 percent in January from a year earlier.

In the 13 nations sharing the euro, robust growth diminishes concern about the currency's rally. Unemployment dropped to a record low in February, and confidence among businesses and consumers last month reached a six-year high.

That may be why Trichet, 64, hasn't reprised the remarks he made during the euro's surge in 2004, which he blasted as "brutal."

"The economy has been significantly stronger than expected," said Holger Schmieding, chief European economist at Bank of America Corp. in London. "We can afford to worry a bit less."

Faster growth has kept the ECB's focus on inflation, as the consumer-price index accelerated to 1.9 percent in March from 1.8 percent in February. Investors anticipate the ECB will lift rates again as soon as June from 3.75 percent, a step that may further fuel the euro's advance. The next meeting is April 12.

Finance ministers from the region, while typically happy to criticize a rising currency and the ECB, now agree the economy is solid enough to avoid being hurt.

"The European economy at present is developing strongly," Germany's Peer Steinbrueck said after ministers met in Brussels March 27.

Not all European politicians have kept silent. French presidential candidate Nicolas Sarkozy said on April 2 that he wants a "real conversation" with the ECB on the euro. "It's perhaps possible to find a balance between a weak euro and an overvalued euro," he said.

That likely reflects concern that the dollar's slide has disproportionately affected the euro. The yen rose at one-third the pace of the euro against the dollar the past four months. The European currency today advanced to a record 160.04 yen against its Japanese counterpart and to near a two-year high versus the dollar on signs of faster economic growth in Europe.

Meanwhile, China's yuan, whose movements are limited by the government, gained 0.5 percent against the dollar, while declining 3.2 percent versus the euro.

The result: European officials will likely join Paulson in urging China to let the yuan strengthen more. The G-7 on Feb. 10 called on countries with widening trade surpluses -- especially China -- to let their exchange rates "move" more against those of trading rivals. Trichet and fellow Europeans may also repeat their February warning to investors to avoid making "one-way bets" against the yen.

Even a modest drop in the dollar would help fortify the world economy by narrowing international imbalances such as the U.S. current-account deficit, the International Monetary Fund said in an April 4 report. The shortfall reached a record 6.5 percent of gross domestic product last year.

The impact of the dollar's decline against the euro is already emerging. Europe last year posted its first annual trade deficit since 2000, while U.S. net exports contributed the most to U.S. growth in a decade during the fourth quarter.

"There is no clear reason for the U.S. to stand in the way of a weaker dollar," said Sophia Drossos, a currency strategist at Morgan Stanley in New York.

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