Muscular money

I first learned about the dollar’s recent strength after noticing something odd about the change in my pockets several months ago: lots of Canadian dimes and quarters. Since I haven’t been to Canada lately, I suspected Canadian coins might be showing up in cash registers because they’d recently become cheaper than American money. And indeed they had: Last July, a Canadian dollar was worth roughly the same as an American dollar; as of late March, it was worth 80 cents.

The Federal Reserve seems to be partially responsible for the surge in the dollar’s value. The Fed has signaled it may finally begin raising interest rates later this year, now that the economy seems to be picking up strength. Since investors like to receive a higher interest rate, this makes dollars a more attractive investment. The European Central Bank’s decision to embark on an easy-money strategy in response to Europe’s economic doldrums has also contributed. The European policy has significantly weakened the euro, and as a result has further strengthened the dollar.

It’s very hard to know whether the rise of the dollar is good or bad overall. If your company depends on exports—selling goods in foreign markets—the stronger dollar could be an alarming development. A stronger dollar makes the goods you sell more expensive (unless you bought financial contracts that compensate you if the foreign currency loses value).

The strong dollar also makes U.S. businesses and property a little less attractive to foreign investors, since U.S. assets now cost more. Commerce Secretary Penny Pritzker recently tried to downplay this risk, arguing that “location decisions are ones made for decades.”

The bright side of the dollar’s rise is that the goods and services we buy from elsewhere in the world have become noticeably cheaper. Businesses that import raw materials or supplies are seeing their costs go down, and that may help to keep inflation in check. The strong dollar also should put to rest for the time being concerns about the U.S. dollar losing its grip as the world’s reserve currency.

Overall, I see the rise of the dollar as a healthy development, but I worry about one potential consequence that hasn’t received a great deal of attention in the financial press.

As I’ve noted here in the past, I’m among those who think the Fed should start raising interest rates sooner rather than later. (My main concern is that zero interest rates may have created a bubble in the stock market and with other risky investments, because investors can’t earn interest on bank accounts or money market funds). The Fed has been waiting for signs of increased inflation before it will increase interest rates. If the strong dollar keeps inflation down, the Fed may continue to postpone the interest rate increase.

It would be rather bizarre if the strengthening dollar discouraged the Fed from raising interest rates. After all, the Fed’s signal that it may raise interest rates later this year is one of the key reasons the dollar is now so strong. But currencies and interest rates and markets move in very strange ways. That’s why, as an old joke has it, the very best economists can correctly predict whether the markets will go up or down about 50 percent of the time.

All of which makes me want to take a vacation. Fortunately, there couldn’t be a better time to do it. The last time I went to Europe, the exchange rate was $1.35 for every euro; but each of those euros now costs less than $1.10.