- The Washington Times - Monday, May 19, 2003

Treasury Secretary John W. Snow set off another drop in the dollar and roiled the stock market yesterday by suggesting that the Bush administration was comfortable with a weaker dollar that would spur exports and growth.

The dollar plunged in New York trading below the $1.17 rate at which the euro was introduced in 1999, raising worries that foreign investors would shun U.S. stocks and bonds. It helped send the Dow Jones Industrial Average down 186 points to 8,493, while interest rates jumped across the board.

Mr. Snow’s remarks came after a weekend meeting in France at which Group of Seven finance ministers discussed what the Treasury secretary described as a “fairly modest realignment of currencies.”

The dollar has dropped 22 percent against the euro and 8 percent against the Japanese yen in the past year. It rebounded to close at $1.165 against the euro yesterday.

In extended remarks to reporters, Mr. Snow said he wants a “strong dollar” that gives people the confidence to hold and invest in the U.S. currency. But markets worldwide interpreted his statements as evidence that the administration had shifted away from its unshakable strong-dollar policy of recent years.

“Snow tried to redefine the meaning of what a strong dollar entailed,” said Allen Sinai, chief global economist at Decision Economics, but he ended up “clearly implying he would be relaxed with the U.S. currency falling further.”

“He has done a very good job of giving the markets the subtle message that the U.S. doesn’t mind the dollar’s fall,” said Michael Derks, chief global strategist at Commonwealth Bank of Australia. “It’s all hands to the deck in the U.S. to help the economy.”

Mr. Derks predicts that the dollar will fall to $1.23 against the euro by the end of the year.

The administration’s shift in policy pleased manufacturers, who were strangled until last year by a relentless rise in the dollar that made it difficult to sell goods overseas while giving their foreign competition an edge.

A declining dollar also helps to stave off the threat of deflation, or falling prices, which the Federal Reserve has cited as a worry, because it increases the cost of imports and gives U.S. businesses room to raise their prices.

Despite these benefits, the fall of the currency poses significant risks for the financial markets and the economy because the United States relies on the inflow of about $1.5 billion of foreign funds each day to finance its enormous trade and budget deficits.

When the dollar was rising steadily and the stock market was booming, the United States had little trouble attracting such massive inflows. But recession, war and other developments have pushed the twin deficits to unprecedented levels of more than $700 billion a year.

Meanwhile, economic growth has stagnated, stock gains have grown elusive and the yields on Treasury bonds are the lowest in four decades. When coupled with the sizable decline of the dollar, that has wiped out the earnings of many foreign investors.

“Diversifying into the U.S. is not really attractive” when the dollar is dropping against the euro, said Patrizio Merciai, a strategist at Lombard Odier Darier & Hentsch Cie, who noted that the yields on U.S. and European bonds are roughly the same right now.

The choice for European investors is clear. “The acceleration of the fall in the dollar is causing further retrenchment” from Treasuries and other U.S. assets, he said.

Foreigners own about $1.2 trillion of the $3.3 trillion in outstanding Treasury bonds, according to Treasury Department statistics. Worries about the loss of foreign buyers helped push the yield on 10-year Treasury bonds to 3.46 percent yesterday from a 45-year low of 3.37 percent set Friday.

Asian central banks have been particularly active in buying U.S. dollars and bonds in recent years as they work to prop up the currency and the export industries on which their countries depend for economic growth. That continued yesterday, with the Bank of Japan stepping in to stem the dollar’s fall against the yen.

For stocks, the consequences of the dollar’s decline have been mixed. It is cutting into the earnings of foreign stockholders, but it has benefited U.S. corporations by boosting overseas sales, exports and profits — enabling them to increase their dividends for stockholders.

Because of the more ambiguous outlook for stocks, some analysts said the market’s reaction to Mr. Snow’s comments yesterday was not the beginning of an extended rout.

“The dollar decline has been a tonic to domestic companies with major overseas interests,” said Larry Wachtel, senior vice president at Prudential Securities, noting that J.P. Morgan recently raised its earnings estimates for such corporations based on the benefits of a weaker dollar.

“The danger is that European investors might become impatient with currency losses, and seek to retrieve dollar-denominated assets,” he said.

Peter Cardillo, chief strategist at Global Securities Partners, said Mr. Snow’s comments “gave a good excuse for investors to take some profit” after the strong stock rally in the last two months.

“The market is handling it pretty well,” he said. “The dollar weakness is a short-term plus, but a long-term negative.”

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