Many are loudly criticizing Paulson’s mega bailout fund. $700bn is not a small amount considering the fact that the global GDP as of 2007 is estimated at around $55 trn (1% of global GDP), and the size of the US economy is around $14 trn (therefore around 5% of US GDP).
People are saying that the US taxpayer is getting squeezed from every which angle to make up for the irresponsibility of mega ‘sophisticated’ financial institutions. Not only is he having to deal with a fall in the prices of his real estate assets, costlier credit, job insecurity and business uncertainty, he’s now having to subsidize something that he doesn’t even understand. This is not entirely true however Read the rest of this entry »
One of our reader’s comment on Gautam’s post brought up an interesting point, regarding oil and it’s affect on the dollar (and by association the rupee). The question arises: Why has the Rupee done an about-turn against the dollar? The Dollar Smile Hypothesis developed by Stephen Jen at Morgan Stanley helps explain the correlation.
In very general terms, currency valuations are based on the growth rate of the particular nation. Since the US economy has been growing at a slower clip, the dollar should weaken against the global basket of currencies. We have seen exactly that, especially last year where we reached 39 Rupees a dollar from 46. However, a curious thing has occurred in just the last couple months: the dollar has in fact strengthened against the world’s currencies including the Rupee as we can see:
The theory suggests that the dollar has a convex relationship to US economic growth. Thus while it remains Read the rest of this entry »
In many ways the US has recently been facing the kind of balance of payments problems which have been seen many times before, but most often in emerging economies.
For several years now, the US has run a large trade deficit by feeding domestic consumption with cheap imports from emerging economies, most notably China. The large flow of money out of the economy was offset by inward capital investment from Europe, Asia and the Middle East.
Since the credit crunch started to bite, the stability of the US financial system has been called into question by the failure of Bear Stearns and the public difficulties faced by Fannie Mae and Freddie Mac. Coupled with the Fed policy of cutting interest rates to fend off a recession and the gloomy consumer outlook underpinned by housing market instability, the US has become a much less attractive destination for international capital.
Along with low liquidity in global markets, the deteriorating attractiveness of the US has put pressure on the dollar to weaken to keep the money flowing in. These were the main factors behind the dollar hitting lows against the EUR, GBP and JPY in Q1 2008.
However the dollar has strengthened in Q2 and the beginning of Q3, largely due to the weakness of other developed economies; the Eurozone and the UK flirt dangerously with their own recessions and the outlook for the Japanese economy looks little better. Whether the dollar rally will continue depends largely on three factors; firstly, whether the Fed can maintain stability Read the rest of this entry »
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