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Friday, June 10, 2005

A Tale of Two Currencies

This isn't the first time I've used this title, and it won't be the last. It gives the best description I can offer of where the Atlantic economies lie. Both currencies have inherent weaknesses, and the battle of the Titans is to see who can go down first. Since we are still governed by the ground rules of Bretton Woods I (with a Chinese subsystem called Bretton Woods II) there seems to be little alternative to this unedifying spectacle.

Alan Greenspan may have helped push the euro down a little yesterday, but I still don't see how he can keep to his promise of a slow and measured rate rise (or how people can believe him). He is trapped between China's strength and Europe's weakness. If he keeps raising slowly, then he will simply push the dollar up (the rates difference with Europe is significant), ballon further the CA deficit, and probably import deflation to boot. If he wants to raise then he would need to do something substantial, something which would so weaken demand in the US that demand for imports would be hit, but this would lead to recession, and maybe debt deflation. So it is probably out. He is therefore reduced to listening to Trichet, and acting accordingly. Even the US economy isn't too big to be driven by global forces, and the Feds room for manoeuvre limited accordingly.

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