The Value of the Dollar: Foreign Exchange and "Strength"

A recent topic in the course I teach was foreign exchange. After discussing some fundamentals, we briefly discussed some implications. I suspect we will discuss them further. Regardless, there have been a number of articles written on the topic by very good economists of late. I draw them to your attention because I know the topic is one that can cause confusion among students.

First, Don Boudreaux of Cafe Hayek had a good piece in the Pittsburgh Gazette last Friday. In it, he discusses the issue of a move to dump dollar, and why he feels it's unlikely. It's a good explanation, especially as it addresses the very fundamental observation that such a move would likely hurt the dumpers as much or more than the U.S. In fact, the only question I have regards his assumption that the dollar was "overvalued" when it was accumulated by other nations. Certainly it was valued more highly than now, but the value is what it is. If one believes in the power of the market, then the market should adequately represent the value as perceived by suppliers and demanders. This is especially true given the amount of time that the dollar was "strong" or "overvalued."

Second, Tyler Cowen at Marginal Revolution had a good piece in The New York Times on the advantages of a weaker dollar. While we often react to terms like "strong" and "weak" in a visceral way, it is important to remember that both terms are relative, and that foreign exchange, like any market, depends on both supply and demand to make the price. Relative preferences are revealed in the price, and we have to examine the motives of buyer and seller at that moment.

Third, Brad DeLong had a good piece in the Taipei Times that talks about where he feels the dollar may be at the moment. He discusses the implications for the U.S. economy depending on whether the dollar continues to fall, or whether it may have already hit (or be very near) the bottom. Either way, it's important to stress to students that the currency market, like the economy itself, is dynamic. And where either is now, is not likely to be where it is in the future.

Finally, Evan Davis who writes and blogs for the BBC has an interesting post in his blog on how we may be seeking to use trade isolationism and concerns about quality to counteract the weakening dollar.

If you're looking for a good, fundamental discussion, these might be good places to start.

I hope you have time to look at these. And please share your thoughts and observations once you do.