by John M. Curtis
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Copyright Octorber 8, 2007
All Rights Reserved.

eeling from the Iraq War, the U.S. economy can't afford the $12 billion a month price tag, mushrooming the deficit and pushing the country toward recession. When former Federal Reserve Board Chairman Alan Greenspan read the tea leaves last February, the stock market sold off, realizing that the good times were about to end. Since then, the White House has been hyping the economy, touting good fundamentals, like low unemployment, low interest rates and solid corporate growth. What they failed to admit was the meltdown in the subprime mortgage market and resulting downturn in the U.S. housing industry. Robust real estate markets over the last four years gave consumers the cash needed to fuel the economy, accounting for about two-thirds of Gross Domestic Product. With real estate heading south, the overall economy follows close behind.

      Wall Street sent Fed Chairman Ben S. Bernanke an urgent request for CPR, dropping the Dow Jones Industrial Average over a 1,000 points in August and early September. Wall Street's sell off signaled that without an urgent change in monetary policy, the economy would follow Greenspan's predictions. Bernanke responded Sept. 18, cutting the Federal Funds Rate 50 basis-points or one-half percent. While the market rocketed upward, it doesn't change the inescapable fact that the economy has begun to slow down. Bernanke's emergency medicine helped the stock market but drove the U.S. dollar to new lows against the euro and British pound, causing Treasury yields to plummet. Foreign Treasury investors can now expect to lose money while the dollar continues to depreciate. Greenspan recently said there's little the Fed can do to stop the economy from slowing down.

      A devaluing dollar and rising euro and British pound cause havoc in European economies where exports become so costly that they're either priced out of foreign markets or forced to shave profit margins. Japan and Korea routinely lower profit margins to accommodate unfavorable exchange rates, keeping products competitively priced. European labor rates are too high and have less leeway to reduce wholesale export prices to remain competitive. European companies are more inclined to buy U.S. and Asian products when they're cheaper than those from the U.K. and Europe. When the G-7 economic powers meet Oct. 19 in Washington, the U.S. dollar and current exchange rates will be a top priority. There's little leverage European central bankers have to change the Fed's monetary policy. Bernanke's concerned less about the dollar and more about GDP.

      European companies are worried about how an inflated euro hurts export business, giving the U.S. and Asia an unfair advantage. “Having crossed the 1.40 against the U.S. dollar and appreciating against the Chinese yuan and Japanese Yen, the euro exchange rate has attained a pain threshold for European companies,” said Ernest-Antoine Seillière, President of BusinessEurope, in a letter to Jean-Claude Juncker, the chief political spokesman for the euro. European central bankers blame the Fed for lowering U.S. interest rates that devalued the dollar. Spending a substantial portion of the tax base on Iraq has slowed the U.S. economy. Spending the tax base primarily on the defense industry doesn't spread around the wealth enough to help the overall economy. Bernanke can't satisfy Europe's currency and export problems at the expense of the U.S. economy.

      Europe and the U.K. find rapidly appreciating currencies fueling inflation, causing central bankers to keep interest rates high. Yet central bankers also know that if they lower interest rates, their currency is likely to drop against the dollar. “Europe cannot be the area of the world's economy that will bear the consequences of others' inaction,” said Junker, rejecting U.S. pressure to cut European interest rates. Juncker blames Washington for running budget deficits and trade imbalances, both causing the dollar to plummet. European central bankers meeting Oct. 4 expressed concern about inflation, offering no hope of lowering interest rates. Juncker doesn't appreciate the extent to which the Fed must fight recession before it deals with propping up a weak U.S. dollar. European Central bankers must calibrate monetary policy to offset damage to their economies.

      While no one has a crystal ball, cutting U.S. interest rates stalls a possible recession but increases currency woes in Europe. “The Europeans are having a one-way conversation with themselves,” said Stephen Jen, head of currency research at Morgan Stanley in London, blaming European politicians for not pressuring central bankers to lower interest rates. European central bankers and politicians aren't pleased with Bernanke's decision to lower U.S. interest rates. “I think the best way of putting it is that the American economy's rate of growth is definitely slowing down,” Greenspan told Wolf Blitzer on CNN's “Late Edition," confirming why Bernanke had no choice but to lower rates. When the G-7 meets Oct. 19 in Washington, European finance ministers should put more pressure on central banker to lower rates. If they do, the dollar should start to gain ground.

About the Author

John M. Curtis writes politically neutral commentary analyzing spin in national and global news. He's editor of OnlineColumnist.com and author of Dodging The Bullet and Operation Charisma.

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