End in sight for fall in US dollar?

Today, The Straits Times asks: How low can the US$ go? Most analysts think that a combination of higher US budget deficit and a worsening current account deficit will lead the currency lower. However, Simon Flint, senior currency strategist at Bank of America, sees "an end in sight".

"I think the US dollar will probably stop at US$1.35 per euro and at 100 yen, and not much further." The Straits Times describes his views as follows:

...Mr Flint believes the US dollar will bottom out by the end of the first quarter next year, or at most by the second quarter, once the strong macroeconomic fundamentals of the US economy lock in. He also expects that export-oriented Asian countries will be fighting hard to stop their own currencies from appreciating too much and thus hindering growth...

"Cyclically, the US economy is stronger than Japan's and Europe's," he said. Expect the tide to turn, then, once the low US dollar starts translating into lower exports for Asia and Europe, inflicting pain throughout these economies.

The idea that a stronger US economy leads to a stronger US currency really belongs to the 1990s. In "Analysts risk overestimating the value of the US dollar", I had pointed out that this idea is not always valid. Especially in an economy driven by consumption and deficit instead of investment and surplus, a stronger economy actually tends to put downward pressure on the currency.

Mindsets among some currency strategists appear slow to change, though.

If the US dollar does hit a bottom next year, I think it is more likely to be the result of a weaker US economy, not a stronger one. The latest press release from the Conference Board shows that the US leading indicator decreased 0.3 percent in October, the fifth consecutive decline. A weaker US economy is likely to lower exports to the US for Asia and Europe and that, as Flint also recognises, may be what is needed for the US dollar to turn the tide against it.