LETTERS TO THE EDITOR: Explaining why the dollar is too high

Financial Times, Jul 26, 2001

From Ms Eileen M. Debold.

Sir, "How do you know the dollar is too high?" challenges Paul O'Neill, the US Treasury secretary ("Strength of US dollar defended," July 25). Answer: a floating currency is too high when the government that issues it runs a fiscal surplus.

This is also called deflation - a rise in the value of the unit of account, as evidenced by a drop in the price of gold and other commodities.

The "architectural economist" that Mr O'Neill is searching for ought first to explain how the banking

system functions with floating exchange rates. Mr O'Neill will not find this in any textbook. She can then describe how a fiscal surplus with floating exchange rates means that more currency is extinguished via tax payments than is being created via fiscal spending. She might want to mention how this keeps the world begging for dollars. To round out the macro picture, she could also explain that a fiscal surplus must be financed with private sector borrowing.

As for the micro aspects, she should politely inform Mr O'Neill that his line about "great companies" being able to hedge currency exposures is a gross oversimplification. She will want to remind him that the largest exposures many multinationals have to a strong dollar are competitive exposures. For many great companies, these exposures can amount to tens of billions of dollars. There are no off-the-shelf hedging products for these exposures since they are not nominal exposures. Furthermore, since there is no paper trail for competitive exposures, the accountants tell us that they do not exist.

Mr O'Neill correctly observes that the world needs "an improved model of international economics". I hope he will search for a grad student who is not stuck in an outdated economic model, and who is bold enough to challenge the old orthodoxies.


Eileen M. Debold,  Copyright: The Financial Times Limited