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from macroblog:

Nowhere To Run: Will That Sustain The Dollar?

http://macroblog.typepad.com/macroblog/2005/03/nowhere_to_run_.html

Bloomberg's Caroline Baum entertains that possibility:

Just when everyone on the planet concluded that the U.S. dollar had nowhere to go but down, the dollar rallied.

Whether the reversal of fortune proves to be short-lived or sustained, technical or fundamental, remains to be seen. The forces conspiring to make the dollar the currency everyone loves to hate -- the big, bad current-account deficit, which hit 6.3 percent of gross domestic product in the fourth quarter of 2004, and the record budget deficit, with no newfound religion on spending in sight -- are still with us.      

However, all that needs to happen is for folks to like another currency less. They don't have to learn to love the dollar more.

This is, of course, one of the points I made in my debate with Nouriel Roubini. I may have confused the issue a bit by couching my argument in terms of shifting from dollars to euro in existing portfolios, but the argument holds for new asset acquisitions as long as there are economies out there with high saving rates that are going to run current account surpluses.

Where's the love for the euro gone?  Ms. Baum points to the problem I have been emphasizing (here and here):

While currency analysts have tied the dollar's turnaround to the Federal Reserve's get-tough language on inflation last week, the euro's recent peak against the dollar came a full 11 days before the Fed met, raised the overnight federal funds rate by 25 basis points to 2.75 percent and opened the door to potentially bigger rate increases ahead.         

Is it possible the euro's decline over the past two weeks had something to do with European leaders' measures for "strengthening and clarifying'' the Stability and Growth Pact? The SGP is the 1997 regulation that stipulated the budgetary caps -- a 3 percent deficit- to-GDP ratio and a 60 percent debt-to-GDP ratio -- for countries signing on to the European Monetary Union, caps that were also laid out in the Maastricht Treaty.

What European Finance ministers see as strengthening and clarifying might appear to an outsider as formalizing hanky-panky with the rules.

And, as Larry Kotlikoff notes:

"The U.S. has major fiscal problems, but they are less significant than those faced by Europeans,'' Kotlikoff says. "Europe is aging more rapidly, and benefit levels relative to living standards or per-capita income are higher.''         

 Ultimately that burden will require "tax hikes on a scale unprecedented in peacetime or drastic government spending cuts,'' neither of which is palatable, Kotlikoff and Niall Ferguson wrote in a 2000 Foreign Affairs article, "The Degeneration of EMU.''

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