Ask a Doofus: Why isn’t the American Dollar cheaper now?

Well… in some ways it is.

In 2002, the CDN dollar was at .62 USD. According to shmoes on the net, it’s down between 20% and 30% against other major currencies since 2002 depending on how you calculate these things, at its lowest point last year. (Maybe the question is more like “if you shmucks knew what was happening last September….”)

Markets tend to price things “in” – take into account changes in information about the value of a thing – as fast as the market for those things move.

For example, if I live in Terrace, BC and I own a piece of land, and then I find out that Disney is going to build a theme park down the street, I will raise the price of my land right away. Psychology comes into play: Joe Average is not going to have a lot of information about how pieces of land like his, near attractions like Disney, appreciate or depreciate – or how real estate typically moves. So he might underprice because he can’t wrap his head around moving from asking $10K to asking for $1Million all at once. In this case, someone will probably relieve him of his cheap sale and turn ’round to sell for profit.

Or, as recently has been happening, he might overprice because of a lot of water cooler talk about how land always appreciates and Disney has geese that lay golden eggs. If someone believes his water cooler talk, THEY might relieve him of what they think is a cheap sale and turn around to sell for profit. Etc. This is how bubbles get started, because enough Joe Averages overprice v. fundamentals, and suddenly the bankers and watchers and people who believe the Market Always Knows Everything (lemming-god) say, “hmm. We seem to be in a new paradigm. Fundamentals don’t seem to matter any more.”

But overall, real estate moves slowly, because there are a lot of Joe Averages, and a lot of considerations in the ‘asset class’ – everyone cares about schools, family, commute to work, neighbourhood, construction/style of housing, sentiment tied to the door you marked your children growing up on. Up until recently, you weren’t buying an asset class, you were buying a home. Of course, up until recently, the job market worked so that people put down geographical roots, too: you had the same job for many years. So there’s been a few factors changing in how people survive in this sort of economy that maybe made housing less about Home and more about Investment — ie: a change in economy meant that housing as an asset class was more fluid. (— See that? THAT’S an interesting hypothesis I haven’t heard anyone speaking to. Hmmm. )

Foreign exchange markets react REALLY fast because they’re liquid. They’re a bit more like betting on horse races. So people price in what’s happening right away, plus there’s less unique sentimentality or school districts involved in the decisions to buy and sell. ( I say unique sentimentality because trends happen. You get sentimentality: it’s just everyone gets misty for Sweden all at once. Whereas when YOU buy a house, it’s based on YOU more than on trend. )You’ve also got pros in the foreign exchange market; they’re not necessarily smarter than Joe, and are just as prone to bubble behaviour, but they’re more aware of the history of their market going in.

So. The general consensus is that the dollar deflated because of all the years of low interest rates. Using my simplified model then, it reacted to what was happening a while back.

Now, we’re in sort of uncharted territory. The dollar will crash more if anything happens to devalue it against the world’s economy. But (I think it was said) 70% of the world is wrapped up in the USD – how those relationships will work is complicated.

There’s more at play, here, though, in the present day money market reaction, and it’s an interesting story.

There’s a dance between interest rates and inflation that has a whole lot of input going in. The two are deeply tied. But remember, those low interest rates (GREENSPAN BUX), were making the economy churn, so the story of the dollar is tied up in all of this passion play. But the Fed doesn’t like to talk about the dollar, generally. It’s like saying the name of the Scottish Play – all sorts of bad luck and panic can break out in the wings – but they’re using it. It’s part of the strategy, if Greenspan’s successor, Bernanke, is making strategy. Which he should be.

Okay, so what ELSE does the dollar do? Well, it is the gate to other countries. There’s import, and there’s export. Canadians and ex-Pat Americans, plus all our fabulous Seattle visitors, are very clear on what the cross border shopping effect is.

When the Cdn dollar is high, you buy your shoes in the States. Stuff is cheaper there generally, and you’re almost at par. Whereas when the Cdn dollar is low, you only buy in the States those things that are stupid cheap – booze and smokes and gas and cheese – but there are more Americans shopping on Robson street, because their money doubles when they cross the border. If it costs $100 to stay in a hotel on both sides of the border, they get two nights here for the price of one in Seattle. (And the Canadian in Seattle sleeps in their car.)

So going through the currency market is like walking through the border between economies, and it meters out our trade relationships.

When the American dollar is low, imports are more expensive, but they can export more. It puts the focus on the American Manufacturer. When high, exports go down because the US store is high end, but imports are cheap. Cheap imports mean discounts at Walmart; the American consumer buys more for their buck. Cheap exports mean more jobs for the American manufacturing labourer.

And this ties into that inflation talk about iPods vs. steak, and what’s in the cost of living. iPods are from China, Steak from the Heartland. Yeah? Steak is more expensive, iPods cheaper, in the inflationary basket. Why? People are POORER in real relative terms, but imports have been cheaper.

Looking up at our cross border shopping example, you have to scratch your head – wha? If Imports are cheaper, it means the dollar is HIGH, right?

And this is where CHINA, and other foreign bag-holders, come into play. Americans have been outsourcing their downside in deficit. Credit, in other words. Not just credit in country, but credit across borders, too. So we’re not JUST looking at subprime – but rather, a sort of subprime-America, where the American government owes China a chunk of cash.

A low American dollar is dangerous to an emerging market like China, after all. What happens if Americans stop buying iPods? Americans are biggest group who Buys Stuff, and their demand has helped build China infrastructure; it has laid down the basis of a workable economy. Perhaps China’s all set up now, and can invite other people to the party – or perhaps China will keep offering credit.

I have a guess – when China moves one way or the other, that’s when the USD will react.

So in some ways, what I think has been happening is that the rest of the world’s been paying the United States to not trip over itself.

And can I throw out there? Maybe a low American dollar is exactly what’s needed in the States. It devalues the wealth already in American households, in real terms, but boosts the American manufacturing sector by making their exports cheaper. Right now, there’s too much pretend wealth in American households, and since much of the job growth has been in residential construction and sales, and all the manufacturing has gone overseas, a bit of support to American manufacturing and labour isn’t such a bad plan.

This is all that inflation/stagflation/deflation stuff. We all agree that there’s an illness: what’s the best course of action – trepanning, leeching, or leaving alone? It’s all pretty woo-woo, I think.

Of course, from Doofus’ mouth to your ears: what I don’t know about this subject would fill several hundred tomes.


  1. Wow. Thank you!

    Also: I think my head just exploded. How do you keep track of all that stuff?

    Let me see if I understand you right:

    1. The reason the dollar isn’t dropping against the loonie right now is that currency traders are smarter than everyone else (stock traders? Bond traders? The Fed?) and they already figured out last September (right when we moved!) what just dawned on the stock market last week.

    2. Nobody knows what the dollar will do now because there are so many factors involved, so we might as well stop checking the exchange rate every five minutes and do what we need to do in terms of large exchanges whenever we feel like it, because it’s a crap shoot. If we feel like kicking ourselves later, oh well, that’s nothing new.

    3. If the US$ continues to hold steady we may well kick ourselves later, but on the other hand we’ll be able to buy cereal at Sav-on down the street rather than schlepping to Bellingham, so there’s that. On the other hand, if it drops, our friends and neighbors back down South might have a better chance of still having jobs.

    4. Something about China.

  2. Okay, so not so easy, the foreign exchange market. My Splainin’ powers fail us.

    -> The foreign exchange traders aren’t smarter, really. They were looking at a different view of things, and that VIEW said something about what was coming. If you stood back and looked at the whole picture, maybe you could see the pattern…

    -> But the foreign exchange traders aren’t about the big pattern. They’re about the micro-movements day to day: Canada’s up! SELL CANADA! Canada’s Down! BUY CANADA. All of them rocking the boat one way or the other – that reflects the big picture – but they’re just each making tiny local decisions.

    -> So don’t run out and grab a foreign exchange trader and give him all your money.

    -> For your own investment purposes, long term, USD might lose a little more ground: but don’t bet on it any time soon or with any certainty because that’s about how everybody in the world plays the game.
    Everybody’s invested in the US in the whole world. And right now, people are HOARDING USD – which makes it scarce, which makes it go *up* a bit.
    Plus, you’re not looking at the whole world – you’re just looking at US V. CANADA – which is a relationship fraught with ties.

    So waiting for further depreciation is sort of like waiting for the Big Earthquake – yeah, could happen, but maybe not soon. Don’t run your emergency preparedness drill NOW, but have water and food on hand.

    -> China owns a lot of American Debt right now which is partially how this mess started. China, like Wall Street, doesn’t want the States to tank.

  3. Oh, I’m going to try to say this a different way: “They were looking at a different view of things, and that VIEW said something about what was coming.”

    Everybody was looking at Greenspan-bux.

    To the bankers, it meant they could give BMWs to homeless guys with “very little risk”. RESULT: Subprime.

    To you or I, it meant that buying a bigger mortgage was doable, and that we were paying less every month to service our debt – so we could have bigger debt. Also, we have less real money in our pockets. RESULT: Lower savings in the bank for everyone.

    To the foreign exchange bankers, it meant that the dollar had one less Big Support thing holding it up, and they’ve got a sort of general rule of thumb about these things. RESULT: USD started sinking.

    So – the crash of banks and the dollar being lower all come from the same place. So does anyone who took a subprime loan. But neither you nor the foreign exchange trader necessarily said, “Oh, this is likely to end up with a crash of the stock market” – everyone was just doing what people do when credit is cheap. Money trading across the world works a little differently than you buying stuff on your Visa at Trader Joes, so there was a different outcome (the USD going down) – but that doesn’t make them any “smarter” than all the homeowners. It just means the “local weather” in the foreign exchange had a ridge of low pressure.

  4. Even we ended up with a bigger mortgage than we would have liked, and it wasn’t subprime. But seriously, a few percentage points higher, and we could not have bought this place.

    But conversely, a few percentage points higher, and maybe NOBODY could have bought this place at that price, and this place would have been cheaper.

    I’m guessing most of the folks who ended up with subprime mortgages didn’t have a pessimistic physicist obsessively calculating and running fuckin’ Monte Carlo simulations of the market before they bought, either.

  5. Well, and some subprime mortgages were useful, doable things that did put people into homes they could afford for a time.

    The problem is that then prices just kept going higher, and people kept paying the higher prices, outside the scope of what was sustainable.

    I imagine tho’, that yes – pessimistic physicists are ALWAYS a useful financial tool.

  6. I heard a realtor discussing the housing market in Vancouver yesterday. I take what he said with large cups of salt since… he wants to sell houses and says what is in his best interest to sell houses. However, I wonder if he has a point?
    He said that right now is a buyers’ market because of the large inventory and falling prices. He also said that if a person is thinking of holding off for a while until prices fall even further, they should also take into account that interest rates are likely to go up and then anything you save on lower prices is lost in higher interest.
    So, why raise interest rates if the powers that be want people to actually buy things to keep the economy alive?

  7. I think the general sense is that housing prices will go low enough to outstrip the higher interest rates.

    And Arwen: Aha! Okay, I think I get it now! sort of. In a fuzzy kind of way, which is about as good as it usually gets for me with this kind of thing. I wasn’t waiting for depreciation, but rather the opposite–but either way, it makes sense.

    So your ‘splainin cred is still way good by me.

  8. @Beth – He’s not entirely wrong … only how much does he figure that interest is going to be?

    Fundamentally, the economy needs us all to spend no more than 25 – 35% (Vancouver’s expensive, so I went high) of our income (or income + consumer credit, which is silly, but is what’s been happening) on housing, because we need to buy other stuff to Make The Economy Go.

    This is the part that EVERYBODY – and that does mean everybody – has lost sight of, not just Realtors. The bubble means that people (like George Bush!) have forgotten/missed the idea that everything is interconnected: when we don’t have enough money, we don’t buy stuff.

    So, the bubble has to pop because right now, there are very few first time buyers (people without equity that grew during the bubble) who can carry a mortgage. Even fewer who can do it with a down payment. This is what I went out to research – Vancouver’s expensive but wages here aren’t great – and although it is conceivable that all of Vancouver will become Canada’s New York and have all the expensive real estate, it seems unlikely given how many people aren’t wealthy here, relative to New York. Our wages and wealth aren’t as massive as our rents appear.

    (Mortgages after Down-Payments + Interest Rates) has to equal 35% income in Vancouver for first time buyers.

    Right now, bubble’s popping because (Mortgages + Interest) > 35% of income.

    If interest gets bigger, prices will need to get EVEN SMALLER.

    Everybody thinks “Oh, well, those days are just GONE”, but the point that people have missed – the bubble psychology – is that they can’t have gone, or at least not for most of our markets. Because the economy needs us to have money to spend on food, fuel, clothing, vacations, stuff.

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