The strong dollar is poised to pay dividends

At times like these, I remember Robert Rubin. The former US treasury secretary under the Clinton administration has stated unequivocally that a strong dollar is in the country’s interest and that the government must be careful not to undermine confidence in the currency. The UK’s plan to spur growth with tax cuts and borrowing sent the pound plummeting and raised fears of capital flight. With a federal budget deficit of over 3% of gross domestic product, no one would call the United States a fiscal conservative. But it is increasingly looking like the cleanest of dirty shirts among the big economies. This is reflected in the greenback. The Bloomberg Dollar Index which measures the currency against its major peers rose the most since March 2020 at some point on Friday, extending its gain since the middle of last year to more than 17%. Other measures put the dollar at its highest level in two decades.

The knee-jerk reaction would be that currency appreciation hurts exports by making US goods more expensive on the world stage. The Trump administration has sometimes suggested that the dollar is too strong and that a weaker currency would benefit the United States by boosting exports and reducing the trade deficit.

Such notions lose sight of the true advantages of the dollar as a reliable store of value. Insurance attracts foreign capital, which serves the US budget and trade deficits while maintaining a relative ceiling on borrowing costs. Just last week, the Treasury Department said foreign holdings of US Treasuries and related securities rose $70.4 billion in July to $7.50 trillion. The amount foreigners own has increased by 50% over the past decade, despite increased borrowing and larger deficits.

US companies are also benefiting from confidence in the dollar, as evidenced by stock market valuations. Although stock prices have suffered significantly this year due to accelerating inflation and the Federal Reserve raising interest rates, investors favor US companies over their global counterparts. At around 18.6 times, the price/earnings ratio of the MSCI US index exceeds the 11.1 times of the MSCI All-Country World index excluding the United States. The current 7.5 spread is wider than the typical 4 to 5 in years before the pandemic, according to data compiled by Bloomberg.

Traders are betting that the dollar’s rise is far from over. Bullish positioning among hedge funds and other large speculators is about eight times higher than the average for the past two decades, according to data from the Commodity Futures Trading Commission.

The dollar has been the world’s reserve currency since the United States and its allies agreed at the Bretton Woods conference in 1944 to subject it to a rate of $35 per ounce of gold. According to the International Monetary Fund, the dollar’s share of global reserves stands at 58.9%, well above the euro at 20.1%. After the euro, there is a sharp decline at No. 3 – the Japanese yen at 5.36%. While the dollar’s share has declined in recent years by around 70%, it is still comfortably above lows of around 45% from the early 1990s.

The advantage of holding dollars is that US markets are much deeper and more liquid than any other. At $23 trillion, the US Treasury market is more than twice the size of the Japanese government bond market. And even if you wanted to buy so-called JGBs, you probably couldn’t because the Bank of Japan owns the vast majority of them, so much so that there are no trading JGBs on certain days. As for Europe, the UK, French, Italian and German bond markets are all below $3 trillion.

And while America’s brand of democracy can sometimes seem messy — especially in recent years — foreign investors are reassured by the country’s adherence to the rule of law that attracts capital from around the world in good times and bad. . When global foreign direct investment flows jumped 77% to around $1.65 trillion in 2021, the United States saw an even bigger jump of 114% to $323 billion, according to the Conference of United Nations on Trade and Development.

All this does not mean that a bad year for financial assets cannot get worse. What this means is that the United States will likely be the beneficiaries of market turbulence elsewhere, as global investors seek refuge in the dollar. This will cushion the decline in financial assets. As Rubin said, a strong dollar is always in America’s best interest. More from Bloomberg Opinion:

• Market crash sends warning to UK government: Mark Gilbert

• Get ready for Britain’s big sellout: Chris Hughes

• A £45 billion tax cut is not drastic enough: Thérèse Raphaël

This column does not necessarily reflect the opinion of the Editorial Board or of Bloomberg LP and its owners.

Robert Burgess is the editor of Bloomberg Opinion. Previously, he was Global Editor of Financial Markets for Bloomberg News.

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