In a world of ugly currencies, the dollar is sitting pretty
May 6th 2010 | From The Economist print edition
JOHN MAYNARD KEYNES once likened investing to judging a beauty contest. For today’s currency investor, however, none of the main contestants looks that fetching. “It’s more like an ugliness contest,” says one hedge-fund manager.
The dollar, for all its blemishes, is the least hideous-looking. So far this year it has risen against the other main currencies (the yen, pound and euro) that are traded internationally and held as reserves by central banks. It has risen most against the euro, which started the year at $1.43 but bought just $1.28 on May 6th (see chart). The euro has slumped in part because the Greek crisis makes it look a poor choice for reserve managers hoping to diversify their big dollar holdings. The variable quality of euro sovereign bonds is now much harder to ignore. Treasury bonds, with their liquid markets and unique issuer, look prettier.
The case for a further drop in the euro against the dollar has more than just momentum to back it. Business cycles favour it: the euro-area economy is picking up speed again, but America’s recovery is more advanced. The pressure to tighten fiscal policy in some parts of the euro area will make it hard for the European Central Bank to even consider raising interest rates. A weaker euro also addresses the deeper cause of the present crisis: a lack of export competitiveness in the south of the currency zone. It does not help Greece, Portugal and the rest compete with Germany, but it at least gives their firms a chance against imports from outside the euro bloc.
A cheaper euro hurts America, which will feel it is owed a chance for export-led growth after almost ruining itself as the world’s main consumer. By most fair-value gauges, the euro is still dear against the dollar, notwithstanding its recent slide. Even so, a weaker euro may crystallise a feeling that Europe is not doing its bit to support global demand.
Are there any beautiful currencies left? A handful had comfortably outpaced the dollar this year before the latest market tremors had investors grasping for greenbacks. Two such currencies are the Australian dollar and the Canadian dollar. Both are issued by rich countries with stable banks that have not sullied the public finances. Another is the South Korean won. Brazil’s real may over time develop as a reliable store of value. The trouble is, securities issued in these currencies are a tiny fraction of those available in the world’s four main currencies, says Stephen Jen of BlueGold Capital, a hedge fund. The lack of scale and liquidity limits their role as reserve currencies. The dollar has those plainer qualities in abundance.