HardAssetsInvestor

This segment was taped at the American Stock Exchange, which offers trading across a full range of equities, options and exchange-traded funds.

Michael Woolfolk, senior currency strategist for The Bank of New York Mellon, examines the forces pushing the dollar lower.

Mike Norman, Anchor, HardAssetsInvestor.com (Norman): This is Mike Norman. I am here with my guest Michael Woolfolk, who is the senior currency strategist at Bank of New York Mellon, continuing our conversation on foreign exchange markets. Michael, recently there’s been a lot of protectionist rhetoric coming out of our own Congress. Indeed, even Treasury Secretary Hank Paulson has taken numerous trips over to China talking to the Chinese and pressing them on getting their currency to move higher. Has the United States sort of tacitly embraced a weak-dollar strategy as “a solution to some of our problems”?

Michael Woolfolk, Senior Currency Strategist, Bank of New York Mellon (Woolfolk): It’s very interesting that you bring that up Mike, because we have in fact seen quite a bit of rhetoric recently. In fact, just yesterday [March 16], Paulson came out and repeated again that a strong dollar is in the best interest of the United States. This has been a mantra that has been said over and over again by Treasury secretaries.

Norman: Pretty hard to convince people of that when it’s going down day by day, right?

Woolfolk: And at record lows against the euro …

• It keeps inflation low;
• It attracts foreign investment;
• Perhaps most importantly, it maintains the role of the dollar at the center of the global financial system.

[A strong dollar] maintains the status quo and maintains the dollar as the currency denominations for commodities, and even more importantly, it is the asset of first choice amongst central banks and their foreign exchange reserves. If these things change, if there was a crisis of confidence in the dollar, we would no longer be able to support a current accounting deficit to the degree that we have. Likely, we would have to accept a lower-trend growth rate for the United States economy and perhaps have a higher unemployment rate.

Norman: So isn't it dangerous then for us to be going around telling our creditors we want our currency to be weaker? It doesn't seem to be in the long-term interest of at least the three things you stated there. It would change our economy fundamentally, and like you said, we might have to live with higher unemployment, slower domestic growth ... exactly what an export economy looks like. Why are we trying to turn ourselves into that?

Woolfolk: Well, Mike, one of the best-kept secrets in the foreign exchange business is what is behind the strong-dollar policy. It is in part wishful thinking. Certainly if we had our preference, we'd like to see a strong dollar rather than a weaker dollar, but in truth, the dollar has to decline, particularly against China [for instance] to help correct global imbalances problems.

China has an appreciating currency, which probably needs to appreciate about another 30% to 35%. It's very undervalued right now and it's undervalued because money has been going into China in terms of a trade surplus, net foreign direct investment, and inflows into their stock and bond market. Money is not coming out of China, unfortunately, and so there's only a bid for their currency. This needs to change, and part of that change is a weaker dollar against the Chinese currency.

It's going to mean that prices here in the United States for Chinese imports will be a bit higher in the future, but we will be able to resolve some of these global imbalances for longer-term U.S. and global health. That's one of the things I think that Paulson will be noted for once he steps down from office-is having successfully worked behind the scenes with the Chinese to allow more flexibility on their side in terms of foreign exchange. I think that he's been quite successful ... [We've seen] the dollar decline against the majors without any notable crisis.

Norman: Despite everything, the dollar remains the global reserve currency and it seems that you're saying it's going to stay that way, as this is just a process of adjustment that we're going through. Let me ask you, because a lot of people get very concerned and worried and upset when they see the dollar going down ... they look at it as some kind of a barometer of economic health here ... should we be that concerned with it?

Woolfolk: We're one of the only nations, Mike, that wears its currency on its shirt sleeve as a badge of honor. We're worried if other currencies get too strong, but we're not too worried about a strong dollar, so I think it's something of a myth. We want a stable currency, and in truth, that's what Paulson wants too: a stable dollar, not necessarily a strong dollar.

Norman: We certainly do, especially if we want to take those trips to Paris and London. Michael, thank you very much. It's always a pleasure to see you.

Norman: My pleasure.