President Donald Trump and Democratic President hopeful Senator Elizabeth Warren have the same idea of the dollar, and it is very bad.
Both Trump and Warren would like to see the United States intervene in global currency markets to weaken the US dollar. Both say this will help American workers by making American exports cheaper, as foreign currencies can buy more currency in dollars for less.
For Trump, this move would help achieve one of his most precious but meaningless goals – to lower the US trade deficit. According to the Wall Street Journal, Trump has moved the idea to his advisers who have so far excluded it.
Warren expressed his desire to weaken the dollar in his US work plan released back in June. She ̵
Scott argues that other countries were able to lure blue collar jobs away from the United States thanks to the strength of the dollar, and then they squeezed this advantage by manipulating their currencies lower.
The economist also complains that the strength of the dollar has attracted investors who then buy the currency. This flood of private and foreign capital into US dollars and assets, he calls "currency misalignment."
Others call this a market.
One reason why an investor wants to buy US dollars over, for example, the Thai Baht, is because it is a global reserve currency – the central banks hold it. They hold onto it because it's reliable – so far we haven't had a tin pot dictator running around manipulating the value of it. Ultimately, that confidence is what makes the dollar so liquid, something investors love. In this way, the stability of the dollar is important to the whole world, not just the United States.
"Foreigners buy US stocks and bonds (which are denominated in US dollars, of course) because they believe that these economic assets (and the currency in which they are denominated) will not be randomly manipulated by some impulsive and unprofessional government," Carnegie Mellon economist Lee Branstetter told Business Insider via email.
"If the United States tried to systematically manipulate the value of its currency, it could adversely affect the return on home currency received by foreigners investing in our assets. A cheaper dollar makes US equities a less attractive investment. Foreigners would think twice to invest in our assets if some dollar inflow of capital was met with an attempt by the US government to push the dollar back down. "
A weaker dollar would also cause a host of other headaches it more difficult to pay down government debt to raise interest rates.
On top of all this is the question of how we would move to the lower dollar. One way is to just lower interest rates, which the Federal Reserve has done. It doesn't seem fast enough for President Trump, which means he can use the 1934 Gold Reserve Act to intervene in the market by selling dollars. A lot of dollars.
"Since we are printing dollars, we could in principle print so freaking many that their price goes down," Branstetter continued. "If implemented, it could literally cost us tens of trillions of dollars in lost wealth."
And right now, in the midst of a trade war with China and with central banks working feverishly to avert deflation, there are even more pressing complications that will cause the dollar to weaken. Namely, to start a race to the bottom.
Thanks to Trump's trade war to a certain extent, the Chinese economy is weakening. For the first time in three years, producer prices fell in August. This means that the production gain will fall. At the same time, the country is undergoing a pig shortage that is pushing up consumer prices. Targeted measures by the authorities have not done enough to stimulate growth. It is a toxic mixture.
A weaker economy means a weaker Chinese yuan, which has a hammer set daily by the People's Bank of China (PBOC). And as the economy slows down, prices in China fall. All this acts as a deflationary force that China can export to the rest of the world.
We've been worried about this before. Back in early 2016 – when all the world's elites gathered at the World Economic Forum in Davos to worry about their money – China's economy plummeted. Money left the country with a fist and this pushed the yuan down.
"I think the Chinese situation with the currency is very important. Very important," said Ray Dalio, the billionaire founder of the world's largest hedge fund, at that time. "If there is significant currency weakness for the Yuan that will mean more imported deflation and it will make things more difficult."
Because the dollar is in as much demand as a reserve currency, a massive intervention must be made in the markets to move it down. Even economists believe that it could very well just be ubiquitous, emerging market currencies.
China – which is currently in a rapidly declining economy – could only respond to a weaker dollar by lowering its peg. This would then start a race to the bottom with the US and China weakening their respective currencies back and forth.
Of course, there are limits to what China would do. Put the stick down and the money will start to leave China the way it did in 2016. That kind of capital flight can set the yuan's rate too fast for PBOC's taste. But on the other hand, China has to sell exports.
So if the United States starts a race, China may finish it.