[OPE-L:7260] Re: exchange rates

From: Fred B. Moseley (fmoseley@mtholyoke.edu)
Date: Sat May 25 2002 - 09:59:16 EDT

On Fri, 24 May 2002, Rakesh Bhandari wrote:

> Fred,
> In terms of your prediction about a flight from the dollar, I would 
> put the same three questions to you:
> 1. What is your general theory for the determinants of exchange 
> rates? Do you rely on Shaikh for example?

I don't have a full general theory of the determination of exchange
rates.  But I think capital flows are the main determinant of short-run
movements these days.  Capital flows in turn depend on many factors
(relative returns, relative risks, reserve currency, etc.)

I am not necessarily predicting a flight from the dollar.  But I do think
that there is a good chance that capital inflows will diminish in the
months ahead, due to higher returns elsewhere and loss of confidence in
the US economy.  If so, the declining surplus on the capital account and
the still growing deficit on the current account will put downward
pressure on the dollar.  If the dollar starts to decline, this could
trigger a capital flight, which would cause the dollar decline to

> 2. Does the dollar play a unique role in the world economy, e.g., in 
> terms of meeting liquidity requirements?

Yes, I do think that the dollar plays a unique role in the world economy
today and that this is one of the things that has kept the dollar up in
recent years, and could continue to do so in the future.  But it would
also mean that a significant decline in the dollar would wreck more havok
on the world economy, as the reserves of many countries would decline in

Jane D'Arista has some good articles on this unique role of the dollar at

> 3. Can single country or even coordinated political actions affect 
> exchange rates?

Only in relatively calm situations for temporary periods of time.  Usually
not in the case of capital flight.  There is a small test case happening
right now - this week the Bank of Japan has intervened to lower the value
of the yen.


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