Dollar Doomsday Scenarios

Dollar Doomsday Scenarios

from WSJ.com: MarketBeat Blog - WSJ.com by Tim Annett

Dan Molinski examines the likelihood of a dollar crisis:
Global investors, noting a weak dollar, all begin to bet against it, sending it even lower. Foreign central banks, fearing the U.S. may not be able to repay its huge debts in outstanding Treasury bonds, rush to unload their reserves of greenbacks.
The dollar, for all intents and purposes, collapses.
This is the picture of a so-called dollar crisis, a rout on
the greenback that could have unfathomable consequences across the
world. And with the dollar tumbling to its lowest level ever
against the euro this week, such talk is in no short supply. The
question is, though, is this dire scenario just scare-mongering or
could it really happen?
Call it the global-warming debate for currency markets.
There are plenty of reasons to worry for those
looking for signs that the dollar’s threat level is nearing red-alert.
On Thursday, the euro climbed to $1.3930 against the dollar, the highest point ever for the 13-nation currency that
is the dollar’s chief rival. Also Thursday, the greenback hit a 30-year
low against the Canadian dollar, and in recent weeks has hit multi-year
lows against the U.K. pound as well as the Australian and New Zealand
dollars.
“The dollar rout story is the thing that gets people nervous,” said
Ethan Harris, chief U.S. economist at Lehman Brothers. “As the dollar
weakens, global investors in different markets may start to anticipate
more weakness and one-way bets are made against the dollar, and private
investors start re-allocating assets out of the U.S.”
But Harris says it would be central banks, especially those in Asia, that might save the greenback
if private investors began dumping it en masse and betting against it.
“The argument against the dollar crisis is that you still have a lot of
foreign central banks in the dollar management business,” he said. “If
private investors start to pull away from dollar, you would see an
increase in buying of dollars from central banks in Asia that are trying to peg their currencies against the dollar.”
The key to the foreign central banks’ behavior will be whether the U.S.’s massive twin deficits — trade and current account — persist,
said John Williamson, a senior fellow at the Petersen Institute for
International Economics in Washington “Unless the U.S. deficit shows
more decisive increases, I think it think it’s unlikely (central banks)
would undertake a massive diversification,” he said.
And analysts say the deficits are more likely to begin shrinking in
the coming months, a natural result of the dollar weakness against the
euro and other currencies — which puts brakes on imports, while making U.S. exports more attractive.