Why a weak dollar is no strategy for economic growth

October 19, 2010, 7:32 PM UTC

The falling dollar could boost exports and help American multi-nationals compete abroad. But any impact it has on earnings won’t be enough to boost the overall economy.

The value of the U.S. dollar has fallen to record lows recently on signs that the Federal Reserve will likely unleash another round of newly-printed money to boost the economic recovery.

Since a weaker dollar generally makes selling goods and services abroad cheaper, many expect it to help American manufacturers. The Wall Street Journal reported this week that the “dollar’s swoon opens doors,” helping one of the country’s largest coal mining companies, Consol Energy (CNX), compete for business in South Africa, Australia, Europe and Latin America. In a JPMorgan analyst report last week on DuPont (DD), the bank upgraded the company’s stock rating from neutral to buy based on a variety of factors, including expectations that a sagging dollar against the euro should help sales in Europe. And companies from Costco (COST) to Deere (DE) have credited the weaker dollar for giving their earnings a boost.

It’s true that softer currencies typically make exports more competitive. What’s more, it could raise the costs of goods and services that Americans buy overseas so much that it might finally get U.S. consumers to start buying more from home markets, helping narrow the trade deficit.

But those prospects are arguably far-fetched. Any gains companies see will likely be short lived. For a weak dollar to truly benefit from trade, it needs to be weak for a definitive period, says Cliff Waldman, economist for Manufacturers Alliance/MAPI, an Arlington, Va.-based trade group for manufacturers.

The greenback has generally been declining for a while. But during the past few years especially, it has been on a very bumpy ride, as opposed to an uninterrupted downward voyage: Though the greenback has gained some during recent days, it has fallen more than 7% against a basket of major currencies since Aug. 27 when chairman Ben Bernanke hinted that the Federal Reserve was prepared to ease monetary policy, according to Bloomberg.

This past spring and part of the summer, the dollar swung to dramatic highs and lows against the euro as Greece nearly went bankrupt and other parts of the region dealt with huge government debts. And in the wake of the banking crisis in 2008, the greenback strengthened as demand for dollars surged while many investors steered away from stocks and bought up Treasury securities.

Just yesterday, U.S. Treasury Department Timothy Geithner, speaking in Palo Alto, California, said that the U.S. would preserve confidence in a “strong dollar” at a time when global tensions rise over currency valuations.

So what major multi-national companies see is not a weak dollar, but a volatile one. And this is the kind of volatility that puts many company executives on edge, since it makes it all the more difficult for them to plan ahead for everything from production to inventory.

Some see a weaker greenback as a key export strategy that could help drive future economic growth. This might give GDP a modest boost in the short-run, especially since growth is so slow these days. But the expansion of exports could only do so much for the U.S. economy. It makes up a relatively small part — about 11% — of GDP, and many economists say that’s not enough to be a big driver of growth.

If anything, the drawbacks of a weaker dollar could outweigh the gains. A dollar in decline encourages a rapid rise in prices (inflation), potentially holding back consumption further. The volatile dollar might be a band-aid for the economy now, but it’s only a temporary fix.

See also:

What exactly is a currency war, anyway?

Geithner’s missed opportunity

Foreigners flood into U.S. bonds