Dollar woes are good news for Europe's markets

Just about everyone is down on the US dollar. It has fewer friends than an airline passenger who admits to having swine flu during a flight.

Billionaire investor George Soros says it's creating "dangerous imbalances". Dominique Strauss-Kahn, the managing director of the International Monetary Fund, talks of a new global currency dominating the world in a decade's time.

The reasons aren't difficult to figure out. The US economy is in bad shape, the Federal Reserve is printing money like crazy, and the budget deficit is out of control.

It is hard to believe that in five years, the dollar will enjoy the same pre-eminent role it has had in the global capital markets since the end of World War II.

In Europe, the dollar's depreciation is often presented as a threat. But that is upside-down: Ending the dollar's reign will boost the European economy.

The evidence of the dollar's woes is all around us. The Organization of Petroleum Exporting Countries keeps muttering about the need to switch the price of oil out of dollars and into one or several currencies. It may not happen immediately, but it would be naive to imagine it won't happen one day.

Central banks are starting to reconsider how much of their reserves they want to keep in dollars, particularly as the Federal Reserve keeps minting more of them. India, for example, just bought $6.7 billion in gold from the IMF to diversify its reserves. Expect plenty of similar switches, particularly from the newly emerging economies, over the next few years.

Reign is over

There isn't any real debate about whether the dollar's reign is over. After World War II, the US was the strongest economy. Now it is just one of several powerful economic blocs. There is no reason for it to have any special position.

The interesting question is what the consequences will be. The gradual decline of the dollar is yet another source of instability in a world that has enough of that already. For Europe and much of the rest of the world, the depreciation of the dollar is an opportunity to strengthen its own economy.

There are three reasons for that.

First, the dollar's pre-eminent role allowed the US to run much bigger trade deficits than other countries would be able to without their currencies collapsing. This was a kind of tax levied on the rest of the world, and allowed the US to consume more and save less than it should have - while other countries had to save more and consume less.

Dollar 'tax'

Since Europe is richer than most other places, the tax was mostly paid by Europeans. Any tax cut will stimulate an economy, so ending the dollar "tax" will do the same in Europe.

Second, the demise of the dollar will inevitably mean unwinding global trade imbalances, because it is only the dollar's special status that makes the huge US trade deficit sustainable. That should close America's trade gap with China. It will also shrink the massive German trade surplus as a stronger euro makes it harder to sell goods abroad. Even with the rise of China, Germany was still the world's largest goods exporter in 2008. If China takes on that role in the near future, Germany may begin to consume and import more, which would benefit all of Europe.

Finally, we don't know what will replace the dollar. The gold bugs are pushing for their candidate, and maybe they will win. But it is most likely to be a basket of currencies. One of them will be the euro. The euro area is the only economy with the strength and liquidity to match the dollar.

Free loan

There are costs to being a reserve currency. Your central bank has to worry about the impact of its policies on the whole world, not just its own economy. But there are advantages, as well. In effect, the rest of the world gives you a free loan. And your currency will be stronger than it otherwise would be.

Europe, with its aging population, is going to be spending a lot of the next 30 years living on its capital. With so many retired people, the region will need to spend more than it saves. And the stronger euro will make it cheaper to import all the things that a dwindling workforce doesn't make.

Most of us don't like change. And people have a tendency to hang on to what they are familiar with for far longer than is healthy. But the dollar's reign as the sole global reserve currency is over. And while there are some things for Europe to fear in that, there is much more to welcome.

Matthew Lynn is a Bloomberg News columnist. The opinions expressed are his own

(China Daily 11/23/2009 page11)