The dwindling dollar
1 Dec 07

The decline in the dollar could potentially spin out of control. It has fallen 6% against a trade weighted basket of currencies since August, however this fall has not been chaotic.

The weakness is driven by fundamentals. Firstly, it has been due to the the cyclical divergence between America's economy and the rest of the world. When the US economy begins to slow down, it will need interest rate cuts, which have happened - it has been cut by 0.75% in the months since August. A cheaper dollar is therefore inevitable.

Secondly, but not driven by fundamentals is the mess created by the credit crisis. The credit is concentrated in dollar assets and now the dollar has been tarred as a subprime currency. In recent years however, a fall in private inflows has been offset by central banks in emerging economies that peg their currencies to the greenback (Bretton Woods II). This has kept up the dollar, but now these central banks are less willing to take up the slack.

Links:
The panic about the dollar - The Economist (1 Dec 07)