June headlines have zeroed in on the oil disaster in the Gulf of Mexico, but it was not that long ago that news of Europe bombarded us daily with various twists on the value of the Euro and its impact on our Dollar. Financial talking heads exhausted their entire lexicon of foreign currency buzzwords to describe the passing events, yet here we are a few weeks later, and nothing much has materially changed in our lives related to prices. While news of a strengthening Dollar seemed to be the trend of late, the word “weak” seems to be accompanying new statements related to the Dollar this month. What exactly does a weak Dollar mean anyway?
In order to proceed, a chart for the Dollar versus an index of other major currencies is in order. Here is one for the past three years:
Currencies do not have intrinsic value. Their value in foreign exchange trading is always relative to another currency. That “relativity” depends on a host of economic, financial and political factors, generally referred to as “fundamentals”. The measure of how one country’s economy stacks up against another is then reflected in the associated currency as in “EUR/USD”, for the Euro versus the greenback. The chart above is actually a combination of a number of individual charts to reflect the overall economic health of the U.S. versus the world.
Currencies are good vehicles for telling this story. Differences eventually translate into price changes for imported goods on the street, as well as for other domestic goods that must compete for your disposable income. As for the snapshot above, the Dollar has been on a strengthening move since last December, about the time that debt issues in Greece began to find their way to international reporting services. As a point of fact, the Dollar has actually been weakening since 2002 when it peaked at “120” on the chart. Two wars and their unfunded deficits were responsible for the long-term downward trend. However, the relative strengthening since 2008 represents a perception that our economy will lead the world out of the recession, while being bolstered to a degree by speculation and flights of capital to safe havens, typically U.S. Treasuries and corporate bonds. These major capital flows benefit our market by funding corporate growth at beneficial interest rates.
With that brief tutorial behind us, let’s focus now on personal finance. If you hear that the Dollar has weakened, then you will most probably hear in quick succession that oil prices have risen. Since we are now a major importing nation of petroleum products, any change in the Dollar has the opposite effect on import prices. Prices at the gas pump are sensitive to any changes in the currency markets, perhaps moving up more quickly than down, but moving just the same. The same effect applies to other imports as well. Stylish eyeglasses from Gucci will now cost more, too, if the Dollar weakens.
If you shop at “large box” stores like Walmart or Target, then the impacts may take much longer to become visible. Most Asian countries have “fixed” their currency conversion rates to the Dollar by government decree. Retailers go one step further to protect themselves from currency risk by having their contracts denominated in Dollars. However, if a long-term trend develops, contracts will eventually be modified accordingly. These changes will then be apparent at the retail checkout counter.
And what about our your friendly grocer? It may have taken a while, but the prolonged weakening of the Dollar from 2002, coupled with a rise in oil prices, caused a dramatic increase in general delivery costs for every product sold in the United States. The toughest pill to swallow has been the impact on basic foodstuffs and staples. These daily necessities have risen in lockstep with gasoline prices.
Farmers, on the other hand, want a weak Dollar to increase demand for their exports. The May debacle in Europe occurred after planting season in America’s heartland. Commodity markets went into overdrive as the Euro fell and the Dollar rose. Wheat futures plummeted to accommodate the new pricing differential.
Whenever we hear that the Dollar has moved up or down, we tend to believe that impacts will be immediate. In a few special cases, these impacts may find their way to the gas pump or the grocer within days, but in most cases, a longer-term trend is necessary for contract modifications to evolve to pass along eventual price changes. Over time, currency differences tend to work their way both in and out of the economy. Sooner or later, the dual concern of rising interest rates and inflation will push currency impacts out of its momentary spotlight.
Bi line: Tom Cleveland is a market analyst for forex traders, an online resource for currency exchanging and forex broker comparison
