There’s no single answer. But one major factor is the Clinton administration’s mixed signals on exchange rates. U.S. officials hinted last year that they favored a stronger yen to make Japanese exports more expensive and reduce the U.S. trade deficit. Although officials later changed their tune, the markets aren’t persuaded. In addition, weak Japanese and European economies have cut demand for U.S. goods, and foreign invest-ment in America is down sharply. Both factors reduce demand for dollars.
President Clinton, for starters. A sagging currency is generally a vote of no confidence from international investors, says Mellon Bank economist Richard Berner, and will add to the feeling that the White House is weak. U.S. investors will suffer because unstable foreign-exchange markets make for tumultuous stock and bond markets. A lower dollar will also push up consumer prices, although the effect should be small. Americans planning travel abroad will feel the pinch, while tourists flocking to America for the World Cup will find greater bargains.
It tried on Friday, when the Federal Reserve and other central banks started buying dollars on the open market. But the amount the central bankers can buy is just too small to prop up a currency for long. Traders know that, which is why Friday’s buying hardly budged the dollar. Relative interest rates are far more important in determining exchange rates: if investors can earn more in Paris than in the United States, they will prefer francs to dollars. As Europe emerges from a slump, some traders bet European interest rates will move upward, and they’re positioning themselves to benefit.
The markets are betting that next month short-term rates will rise. Many analysts expect a rate hike when the Federal Open Market Committee next meets, in early July.
If rates go up, consumers can be hurt in a number of ways, from higher credit-card interest payments to less-generous deals on auto loans and leases – although fierce bank competition in many cities could limit increases. Many analysts also worry that more rate hikes would push the stock market further south. Corporate borrowers? As investors favor foreign markets to avoid being hit by the falling dollar, U.S. businesses will only have to pay more to attract money.
