VIEWPOINTS : Cascading Dollar Must Fall Further to Close Trade Gap : It’s Only Halfway There if Drop Is to Have Much Effect

When it came to intervening to affect currency values, the participants at the economic summit essentially agreed to disagree. They disagreed because they had fundamentally divergent national needs.

Japan and West Germany would like to see the dollar stabilized at its current value, since if it falls any further, it will reduce their substantial export surpluses. Without these export surpluses and the jobs that they provide, West Germany and Japan would be forced to choose between stimulating their economies with different monetary and fiscal policies or watching their economies slide into a recession. Since they don’t want to change their domestic policies, they don’t want to see a further decline in the value of the dollar.

In contrast, the United States needs an even lower dollar since the current fall in its value is not large enough to eliminate the U.S. trade deficit. A smaller trade deficit is necessary to keep the American economy growing.

To finance its trade deficit, the United States must also borrow abroad. It will soon announce that it has become the world’s largest net debtor nation, and it has no desire to fall even deeper into international debt.

If America runs up debts that require the payment of $440 billion per year in international interest payments, it will forever be forced to pay 1% of its gross national product in interest to the rest of the world.

Or, if it chooses, it could repay its international debts by giving up 10% of its GNP in any one year. Neither is very attractive, because both represent a large drawdown on the future American standard of living.

A few elementary calculations show how far there is left to go before the dollar has fallen to the point where the United States has returned to a sustainable position in its international accounts.

At the peak of the dollar in March, 1985, econometric equations showed that the dollar was 45% overvalued--a 45% fall in the value of the dollar would have been necessary to balance exports and imports.

But many underdeveloped countries peg their currencies to the value of the dollar, and thus those currencies that do fall, compared to the dollar, must fall more than 45%.

As a result, on what economists call a “trade weighted” basis, the dollar has fallen just about half as much as it needs to decline despite rather large falls against a few currencies such as the Swiss franc and Japanese yen.

Surplus Necessary

In addition, several other things have happened to make the 45% an underestimate of what must be done. As a net debtor nation, the United States cannot simply return to a balance between exports and imports.

To earn the Japanese yen or German marks that it needs to pay interest on its international debts, it must have a surplus in its trading accounts.

Given current debts, these interest payments would require a surplus of about $10 billion. To get that surplus, the dollar has to fall more than 45%.

The United States also traditionally has had an export surplus with Latin America. But Latin America has gone broke, and to make its interest payments to American banks, Latin America must run a surplus in its trading accounts with the United States.

If the United States is to have an overall surplus while having a deficit with Latin America, it must then have a larger surplus with the rest of the industrial world, and this requires a lower-valued dollar than would have been required if Latin America had not gone broke.

Put these two factors together, and the dollar is not even halfway to where it needs to be.

A similar conclusion is reached if one looks specifically at the value of the dollar, compared to the yen. The dollar’s value has fallen from 240 yen to about 165 yen, but there is a long way to go.

Deficit Counterbalanced

In 1979-80, the yen stood at 180 yen to $1, and both the United States and Japan had an approximate balance in their payments.

The United States had a substantial deficit with Japan, but this was counterbalanced by a substantial surplus with Europe.

Since then, however, Japan has had 40% less inflation than the United States, and its productivity has grown 15% faster.

To restore relative production costs to 1979-80 levels would require a 55% fall in the value of the dollar from the 180 yen to $1 rate. This means a value for the yen of less than 100 yen to $1.

But here again, other factors have occurred to make this estimate, if anything, an underestimate of what must be done. Because of the green revolution and Common Market agricultural policies, the United States is not going to return to having a large surplus in its agricultural exports.

This means that it cannot finance a large deficit with Japan by running agricultural surpluses with the rest of the world.

To balance American and Japanese accounts, a larger fall in the value of the dollar will be necessary in 1986 than would have been necessary in 1979-80.

While the United States has become the world’s largest net debtor, Japan has become the world’s largest net creditor.

Many of the interest payments that the United States will have to make will be to Japan. To make those interest payments, the United States will directly or indirectly have to have a surplus with Japan--but this requires a value of the dollar low enough to generate that surplus.

Japan Imports All of Its Oil

In 1979-80, oil prices were also at their peak. With low oil prices and much cheaper oil imports, it will take a much higher value of the yen to return Japan to equilibrium than it would have taken in 1979-80.

Falling oil prices help the international accounts of both Japan and the United States, but, since Japan imports all of its oil while the United States imports only about 35% of its oil, Japan gains more, and the net effect is to raise the value of the yen, compared to the dollar.

Based upon the Group of Five agreement of last Sept. 22, governments began intervening to push the dollar down. Since then, the dollar has gained a downward momentum in the market and is falling without the aid of government intervention.

As a result, the governments at the Tokyo summit could agree that they were still in favor of stabilizing currency values, but they could not agree upon the target zones where they should be stabilized.