The Dollar's Plunge Continues

Bloomberg reports that Fed chair Ben Bernanke warned that housing weakness will likely continue "somewhat longer" than expected and hold back the rest of the economy. As interest rates approach 5 percent, many investors are finding stocks less attractive now that their dividends are unlikely to follow interest rates higher. Even though the services sector expanded last month, the dollar continued its prolonged weakness, especially against the euro.

Now that equities in the United States have risen so strongly in recent months, many foreign investors are taking risk off the table by winding down the carry trade in the yen and the Swiss franc. For a long time, these investors took advantage of especially low interest rates in Japan and Switzerland by borrowing money there and then investing that money in the United States. The difference between prevailing interest rates has the effect of juicing profit margins, but if the carry trade acted as a force multiplier that drove the US market higher, it could also have a multiplied effect as it unwinds.

The dollar's decline against the euro in particular and most world currencies in general is at once a long overdue structural adjustment to reflect the growing economic clout of the rest of the world and also a repudiation of US economic leadership.

Oil prices around the world have risen dramatically in recent years, yet when the dollar's effect on dollar-denominated oil contracts is factored out, the price of oil in euros and yen has not grown nearly so much. While no one expects the oil sheiks to sell their product in other currencies, a much higher percentage of global commerce will be taking place in foreign currencies as time goes on.