NOT all the euro action occurred in Denmark in recent days. Indeed, the millions of Danes who took to the polls to say "no" to the euro may be less important to the currency's chances for success, at least in the near term, than the handful of Washington policymakers who took to their conference rooms to decide what to do about the euro's continued decline. It is always difficult to see through the mists in which central bankers and finance ministers like to enshroud their decisions. Democracy stops at the doors of the Federal Reserve and the Treasury, in part because policymakers like it that way, and in part because their ability to affect financial markets depends partly on their ability to keep traders off balance and guessing. Still, it seems possible to peer through the mists that surrounded America's decision to join Britain and other G7 nations in their intervention in currency markets to shore up the failing euro - and their promise to do it again, if necessary. The stated reason for this intervention was "a shared concern" about the euro's "recent movements". The translation of this is: we are worried the continued decline of the euro, combined with the rising price of oil - a commodity that must be paid for in dollars - will throw euroland into recession or, at least, abort its anaemic economic recovery. A progressively weaker euro makes American exports dearer and dearer in Europe, and European goods progressively cheaper in America. That would increase America's trade deficit, already approaching a record 5% of gross domestic product, a figure that many analysts and policymakers regard as unsustainable. "It has been said," reports the Goldman Sachs economist Ed McKelvey, "that the growing current account deficit is the Achilles' Heel of the US expansion." This brings us to the good news for euro enthusiasts. America's policymakers have decided they must participate in efforts to keep the euro from hitting new lows. It is no secret that Alan Greenspan, the Fed chairman, worries that a time may be reached when the world will no longer want to accept pieces of paper with the pictures of American presidents on them in return for its cars, clothes, trainers and other goods. When that time comes, McKelvey estimates the dollar will decline 10%. But if the adjustment is quick and sharp, some economists are telling the Fed the dollar could plummet by as much as 45%. So far, of course, foreigners have been willing to use those dollars to invest in American companies and in the government's IOUs (known as Treasury bonds). The world sends its goods to America, America sends its dollars to the world's producers of goods and commodities, and the recipients of those dollars send them back in return for shares and bonds. Everybody is happy, especially inflation-fighters at the Fed. After all, the American economy is running pretty much at full speed, and if foreigners were not able to meet the nation's insatiable demand for consumer goods, domestic producers would begin putting up their prices. But the American economy is losing a bit of steam and this may diminish foreigners' willingness to continue investing here. Instead of using their dollars to buy a piece of America, or holding them in anticipation of an increase in their value, foreigners may decide enough is enough and sell their dollars on the world's markets. That would drive down the dollar, reducing the value of the investments foreigners hold, making further investment in America even less attractive, prompting them to sell more dollars, in a cycle that would create big problems for Greenspan & Co. A falling dollar would raise the price of imports, giving domestic producers relief from the pressure of foreign competition and permitting them to raise prices. Meanwhile, a loss of foreign interest in American shares would drive stock markets lower. Americans, no longer seeing their wealth rise even as they wear out their credit cards, would finally do what policymakers have been urging them to do - save more. But they would be doing it precisely when those same gurus would wish consumers would return to their spending ways. The Fed would be faced with a lethal combination - rising prices for goods and services and a falling dollar, both of which would impel it to raise interest rates. But it would also be faced with a falling stock market and a slowing economy, which dictate that interest rates be lowered. Alternatively, whoever is in the Treasury secretary's seat could ask America's partners in the G7 to join it in intervening in currency markets to shore up the dollar. That would not be the first time America has called on other countries to intervene on its behalf. And it is more likely to get help if it has been willing to support the euro. Never mind that such interventions rarely succeed, as Britain learnt at great cost when John Major and his chancellor, Norman Lamont, sought to shore up the pound before finally abandoning that costly effort and withdrawing from the system of fixed exchange rates into which the euro countries have now locked themselves. Faced with alternatives that they consider worse - in the case of the euro an unstoppable fall in value so great as to make the Germans demand an opportunity to regain sovereignty over their own economic affairs - finance ministers are prone to give intervention a try. Faced with a falling stock market, a slowing economy, rising inflation and a dumping of dollars and dollar assets by foreigners, America's policymakers may also want to cry for help. And they think their chance of being heard has been increased by their support for the euro - however misguided. Irwin Stelzer _______________________________________________ Crashlist resources: http://website.lineone.net/~resource_base To change your options or unsubscribe go to: http://lists.wwpublish.com/mailman/listinfo/crashlist
