Currency Crisis May Give Bush Leadership Test

The dollar was falling early on election day, even as James A. Baker III--campaign manager for Vice President Bush--was telling a Republican fund raiser on Wall Street that he felt very confident of a Bush victory.

Even though the dollar turned up in late New York trading, it had declined earlier in Tokyo. It has fallen steadily there since the week of the second Presidential candidates’ debate--the moment it was clear that George Bush would become the next U.S. President.

While financial markets tend to favor Republicans, the prospect of a Bush presidency may not give a big boost to the dollar. That’s because Bush’s handlers favor a lower dollar, traders in New York explain. Baker, the former Treasury Secretary and White House chief of staff who is expected to become Secretary of State in the new Administration, and Martin Feldstein, the economist and Bush adviser who also is expected to have a post in the Administration, advocate curing the U.S. trade deficit by lowering the dollar.

The outlook is for the dollar’s decline to continue for the next six to nine months, says Rinfret Associates, currency traders and consultants--from present levels of 125 yen to 100 yen or from 1.79 West German marks to 1.42, and a British pound back up to $2.22, a rate it hasn’t held since early in the last decade.

But the consequences of such a fall in the dollar are uncertain, and expectations are contradictory--because the currency’s value is far from a simple matter.

To some, Baker and Feldstein among them, a lower dollar would make the United States the world’s low-cost manufacturing nation and reverse the $140 billion-plus trade deficit. Already Europeans are reported to be worrying that Japanese exporters--whose access to the Common Market is restricted--will increase exports from their U.S. plants and use America as a “back door to Europe.”

Crisis Foreseen

But others, in universities and the financial community, do not foresee a dramatic reduction in the trade deficit. They reason that with U.S. industry operating at close to capacity, it can’t export much more than it already does even if a lower dollar makes its goods cheaper overseas.

And still others, such as Pierre Rinfret, an economic adviser to both the Johnson and Nixon administrations in the 1960s, foresee the falling dollar provoking a crisis that will test the Bush Administration.

The crisis would be economic in the sense that a fall in the dollar would undermine the value of foreign holdings of U.S. government bonds, forcing interest rates higher to make the bonds more attractive.

But there could also be political protests as foreign purchases of U.S. real estate and companies mounted. The falling dollar, after all, cuts prices on U.S. assets. If Japanese buyers--who have purchased more than $9 billion of U.S. real estate this year--were contemplating buying Chicago’s Sears Tower, for example, they could do it today for $1 billion or so. But if the dollar falls to an exchange rate of 110 yen to $1, buyers from Japan could buy the Tower for yen worth $866 million at today’s rates.

However, while the weak dollar makes U.S. assets a bargain, it also adds risk to foreign loans and investments. A recent report by the Tokyo-based consulting firm International Business Information calls the dollar “weak and unstable” because U.S. foreign debt may grow to $1 trillion.

That is why the Japanese government is proceeding with plans to make the yen an international currency, displacing the dollar in some areas, particularly Asia. Tokyo’s reasoning is simple: Using the yen in trade and demanding that borrowers pay in yen reduces foreign exchange risks for Japanese exporters and lenders.

Accordingly, Bush may face pressure to issue yen and deutsche mark bonds, meaning that the United States--like some developing country--would be forced to pay its debts in foreign currency even as its own dollar weakened. President Carter submitted to such demands in the 1970s; President Reagan wasn’t asked, and confronting Bush with such a demand could well provoke a crisis.

But, again, a currency’s value is not a simple question. For all the talk of trade deficits and foreign borrowing, it is the power of the gun that truly backs the dollar as a world currency. The United States spends $62 billion a year stationing armed forces overseas--77% of them in West Germany, Japan and South Korea--with little direct compensation for such outlays. Maintaining that military presence would become all the more difficult and expensive if the dollar weakened.

So Bush has his work cut out for him. Dealing with the tensions aroused by currency values, and strengthening the dollar--by spurring U.S. industry to regain its top position in the world--will take uncommon leadership. It just may be that the dollar’s behavior in the last few weeks reflected questions on his ability to deliver that leadership.