Rift Opens Over U.S. Trade Deficit

Treasury Secretary Paul H. O’Neill said Wednesday that there is little Washington can--or should--do about the export-damaging strength of the U.S. dollar and the rapidly widening gap between how much America imports and exports.

But O’Neill’s remarks to a congressional committee came amid a growing consensus that the dollar’s strength since the mid-1990s and the resulting jump in the nation’s current-account deficit--the mismatch between its exports and the import of goods, services and transfers--are substantial threats to the economy.

Even as he spoke, however, the dollar continued its recent pullback against key currencies, including the euro and the yen. That shakiness--though barely denting the greenback’s value so far--has fueled worries that strength could abruptly turn to weakness, which could send import prices surging and drive the nation back into recession.

“This is the single biggest risk to the U.S. economic outlook and

On its face, O’Neill’s testimony represented little more than a restatement of long-held Bush administration policy that a strong dollar is in the national interest.

And O’Neill was almost certainly motivated by a desire to avoid repeating a painful mistake early in his tenure, when an off-the-cuff remark sent the dollar into a brief but sharp dive.

But in his effort to drive home the message of “no change” on the dollar, O’Neill inadvertently highlighted the depth of differences between the administration and other policymakers both here and abroad.

Finance ministers from the Group of 7 industrialized countries recently warned that huge U.S. trade deficits threaten economic recovery worldwide. Even Federal Reserve Chairman Alan Greenspan, a friend of O’Neill, cautioned against allowing the dollar to continue strengthening and the deficit to grow.

“Countries that have gone down this path invariably have run into trouble,” Greenspan told a congressional committee in March, “and so would we.”

The current-account balance represents the broadest measure of America’s financial obligations to other countries. The gap between inflows and outflows reached 4.1% of U.S. gross domestic product last year and could hit 5% by the end of this year.

That would make it the largest mismatch in the industrialized world--and one of the largest even among developing countries.

But size alone is not what has analysts most worried. In effect, some analysts say, the strong dollar and resulting outsized deficits are similar to the now-ended dot-com and telecom bubbles--fun while they lasted, but ultimately bad for the economy and difficult for policymakers to handle.

“This is the dot-com dollar,” quipped James W. Paulsen, chief investment officer with Wells Capital Management in Minneapolis. “Policy officials--maybe not at Treasury, but certainly at the Fed--would love to see the dollar weaken somewhat. But they’re afraid of doing anything for fear of popping the bubble.”

In fact, policymakers have already used several of the tools they usually employ against a strong dollar and growing trade deficits--to almost no effect.

Moves to Lessen Increase Fall Short

Over the last year, they have sharply boosted the money supply and slashed interest rates, moves that ordinarily make it less appealing to hold dollars. But the greenback’s value has continued to rise during most of that time.

Analysts said the recent modest decline in the dollar’s value, which amounts to about 3% against a basket of key currencies, has not been enough to fundamentally alter the economic equation.

“When it comes to currencies, it’s a beauty contest among countries,” said Edwin M. Truman, a former senior Treasury and Fed official.

“Right now, the U.S. looks pretty attractive. That doesn’t mean it will always be that way,” he said. “But if you’re an investor, what looks more attractive right now?”

In his testimony Wednesday, O’Neill suggested that current-account statistics were outdated measures of the trade and financial relations between nations, and he questioned whether the dollar’s strength has anything to do with the huge U.S. current-account deficit.

The Treasury secretary said, for example, that the statistics were premised on the notion that “the world is run on a nation-state basis and that nations are basically independent of each other in an economic sense.”

“I don’t find that to be the way the world is anymore,” he said.

But those who followed O’Neill at Wednesday’s hearing adamantly rejected his position, asserting that the trade statistics do properly measure economic trends and that the dollar’s strength is the chief cause of the nation’s current deficit.

Since hitting record lows in 1995, the dollar has risen between 40% and 50% against other major currencies, according to Fed statistics. That has caused the price of U.S.-made goods and services sold abroad to rise commensurately.

“When a company sees its prices go up 40% to 50% in a few years against its main competition, it usually is in Chapter 11” bankruptcy, said Bergsten, director of the Institute for International Economics, a Washington research center.

Bergsten and others at Wednesday’s hearing laid part of the blame for the strong dollar on O’Neill, charging that his public comments have propped up a currency that would otherwise have slipped.

“Treasury is part of the problem,” said Jerry Jasinowski, president of the National Assn. of Manufacturers, a Washington trade group whose members have been hurt by the dollar’s strength.

The trade gap, the excess of U.S. imports of goods and services over exports that is the main component of the current-account deficit, totaled $31.5 billion in February, up from $28.7 billion a year ago February, according to Commerce Department statistics.