Dollar’s Slump Signals Jitters Over Bush Plan
The dollar plunged on Friday to an all-time low against the German mark, sinking stock and bond markets and raising new worries about the course of interest rates and the U.S. economy.
The financial markets’ dismal performance was considered by some analysts as a thumbs-down on President Bush’s acceptance speech Thursday night, in which he proposed a vague plan of federal tax cuts and spending cuts in 1993.
By failing to detail either a new plan for growth or a proposal to reduce the huge federal budget deficit, Bush may have caused some foreign investors to give up completely on the U.S. currency, traders said.
“The decline shows there is a lack of confidence that the U.S. will be able to reduce its deficit and get its economy growing again,” said Patrick Alexander, a trader at Advisers Capital Management, a New York money management firm.
In reaction to the dollar’s latest slide, the Dow Jones industrial average fell 50.79 points to 3,254.10, and Treasury bond yields rose.
Of greatest concern now on Wall Street is that a widespread desertion of the dollar could force the Federal Reserve to try to stem the flight with the central bank’s most powerful policy tool: a rise in interest rates.
Such a move would make U.S. bonds more attractive, thus pulling in new capital to American shores and bolstering the dollar in the process. But at the same time, it could have a devastating effect on the weak American economy, experts warned.
By the close of trading in New York on Friday, one dollar bought just 1.429 German marks, down from 1.447 marks on Thursday and well below the previous historic low of 1.443 in February, 1991.
As recently as April, a dollar bought 1.65 marks. The dollar is now worth less against the mark than at any time since the end of World War II, when Germany revamped its monetary system.
The dollar also fell in comparison with all other European currencies. This means Americans traveling in Europe or buying goods imported from there will pay higher prices.
Though the dollar has been sliding since spring, Wall Street has mostly focused on the benefits a weaker dollar brings: It lowers prices of U.S. exports, making American companies more competitive overseas.
But Friday’s sharp decline raised the possibility that the dollar is in a free fall, which could wreak havoc with the global financial system because the U.S. currency remains such a dominant element of that system.
Wall Street believes that the Fed and other world central banks could not tolerate a collapse in the dollar. Even though the Fed and 15 other central banks intervened in the currency markets three times Friday--buying dollars and selling other currencies--they could not stem the dollar’s slide.
That sparked talk on Wall Street that only an interest rate hike by the Fed could stop the dollar’s drop, should it continue. Though nearly all analysts doubt the central bank would make such a move soon, the mere discussion was enough to unnerve stock and bond traders.
At the very least, the dollar’s weakness suggests the Fed cannot cut interest rates further to help the U.S. economy, said Phil Roth, an analyst at brokerage Dean Witter Reynolds in New York. And because many stock investors had been counting on another rate cut, the dimming chance of that could cause more investors to abandon stocks in the weeks ahead, he said.
Analysts said another reason for the turmoil in financial markets Friday was this week’s rumors from the Republican National Convention in Houston that Bush would replace members of his Cabinet, including Treasury Secretary Nicholas F. Brady, and the subsequent denial of such rumors. Foreign investors fear that political motives will disturb fragile economic relationships.
Indeed, the U.S. government could begin to put new pressure on Germany to cut its interest rates, a move that could by itself help stop the German mark’s rise against the dollar.
Yields on long-term German bonds are at 8% or more, compared with 6.5% to 7.5% on U.S. long-term bonds. That is drawing capital to Germany and away from the U.S.
But the Germans have maintained that they must keep rates high to stop inflationary pressures from surging in the wake of the reunification of Germany.
Even in the face of a plunging dollar, it is unlikely that Germany would consent to reduce its rates to help the U.S. currency, most analysts said Friday.
The Dow index at Friday’s close was the lowest since early April.
In early New York stock trading, investors had responded warmly to Bush’s Thursday night speech, in which the President promised to stimulate the sluggish economy with, among other measures, tax and spending cuts.
Public opinion polls early Friday morning showed Bush narrowing the gap between himself and Democratic candidate Bill Clinton to single digits. Wall Street generally favors Republican administrations.
But once investors started to look at Bush’s proposals, “the numbers didn’t add up,” said Hugh Johnson, senior vice president with First Albany Corp. “It looked as though the speech was long on fire in the belly and short on political reality.”
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