How The Dollar’s Value Affects You

the dollarIf you?re fretting about the economy and what it means to the average person in the United States, the currency market offers some clues. And because the outcome will affect the value of the dollar and the economy, all eyes are on the talks between the White House and Congress to raise the ceiling on the amount of debt the federal government can incur.

Currency traders who follow the dollar?s gyrations know that the value of the greenback has come under downward pressure so far this year as the economic recovery slowed. That’s in large part because the U.S. Federal Reserve Bank, the country?s central bank, increased the money supply in the market in an attempt to jumpstart the recovery, mostly by providing artificial demand. It does that by keeping low overnight discount rates ? the interest on loans it makes to banks ? thereby encouraging the banks to continue getting the loans and lending to businesses and individual consumers.

Sometimes, the Fed goes to the open market to buy bonds (debt), artificially creating demand at a time when private investors may be too scared to participate in the bond market. Such a policy is called ?monetary? or ?quantitative? easing because it involves loosening the government?s purse strings.

The Fed did just that last December, when it bought $600 billion worth of Treasury bonds, the government’s own debt, in the open market to stimulate the economy. The result was a weaker dollar, which lasted until the bond purchase program ended on June 30.

When there are more dollars circulating in the market than there are people looking to buy it, the value of the U.S. currency falls. Around the world, people (and institutions) buy and sell dollars either to purchase commodities or simply to keep it because the dollar is the world’s reserve currency. Commodities such as oil, metals and agricultural products only trade in dollars in the international market, which is why the dollar is important.

Generally, if buyers can find the dollar easily, they will pay less for it and so the value of the currency falls. When that happens, Americans trying to import goods or products from overseas, or those who travel abroad, have to pay more to do so. People generally do not want to pay more for anything if they can avoid it, and, given that times are tough, many would prefer to stretch their dollars. They will import less, or cut down on travel abroad, if a weaker dollar means they have to pay more to do so. The reverse is also true ? people will import more and travel more frequently when the dollar is strong and the cost of doing so is less.?

All of this has a direct impact on jobs in the United States. Fewer imports, for example, means less work for those in the transportation industry ? those who truck goods from airports and seaports to markets inland. It also means less work in the retail sector. For example, if there are no imports from China, the largest supplier of goods to the United States, there will be far fewer goods bound for wholesale and retail stores.

Conversely, greater imports would boost jobs in transportation and retail.

All kinds of people buy the dollar in the open market. Some countries have hundreds of billions of dollars stashed in reserves and continue to buy more through their own central banks, either to trade and reap the interest, or to keep for later use. There are also big traders, or hedge funds, that make huge profits simply by placing bets on whether the dollar?s value goes up or down. For example, if they bet on a rise in the dollar, they will buy the greenback at a relatively lower price and sell it when the price is right, pocketing the difference.?

Right now, many hedge funds are betting that the dollar’s decline since January is about to end, partly because they do not expect the Fed to launch another bond purchase program, or quantitative easing, to increase the dollar supply in the market.

Moreover, with no end in sight to the debt crisis in Europe, these hedge funds expect investors to sell the European currency ? the euro ? and buy the dollar as a safe investment. That will boost the value of the dollar against other currencies, making it cheaper for American consumers to buy goods made overseas and to travel abroad, and for American companies to import foreign inputs for manufacturing here at home.

That, in turn, would help to create more U.S.-based jobs, at least in some sectors. On the other hand, the strong dollar will make it more expensive for foreigners to buy made-in-America goods and to travel to the United States, potentially hurting the U.S. manufacturing and hospitality industries, for example.????

A collapse of the debt-ceiling talks would cause the country to default on its existing debt obligations and derail the strengthening of the dollar. That would undermine confidence in the dollar and result in a bigger problem than the European debt crisis. Interest rates would rise beyond the ability of ordinary Americans to afford loans; inflation would soar, with the cost of goods and services skyrocketing; and job losses would expand.?