Cash-Money Drunk Wrong

Yesterday The Rambler asked me about currency valuations, and why the British Pound was so expensive versus the US Dollar. I was in a jovial mood, having had a couple of margaritas, a few Mandarin & Tonics, and three pints of beer… Fuck it: I was slobbering drunk. In my drunken stupor, I gave the most eloquent answer that any Economist worth his salt could give… utter rubbish. A bunch of rambling ramblings for the rambler. Here’s an abbreviated version:

“See, the currency of the country is the productive capacity and the British don’t print any more goddamn pounds - but we do - so our stale economies only compete at the product level, all unaggregated. So the money does things to each and then we joust with our collective pocket change. The pound kicks our ass every time ‘cause there are fewer of them around, but they’re much meaner. Then of course that old World War II and Hitler, that asshole. So the Dollar falls like so many turds from a goats hairy ass.”

Yes. If you can weave Hitler into your philosophic discussion of currency movements (which is always philosophical), it will make whatever point you are hopelessly bludgeoning: immediately and irrefutably valid. Emoted validation… I like it. Kinda clever, in a not-clever-at-all kind of way.

In an effort to somewhat clarify what I MEANT to say in response to the query:

Here is my opinion. It is strictly and only that.

Exchange rates between floating rate countries are decided by supply and demand of the actual representations of the currency (M1 -> M2: paper, coin, demand deposits, bankers’ acceptance, etc). The basic ways to move the relationship between two currencies are: adjust Supply by a reduction or expansion of the actual amount of currency available for foreign purchase, or an adjustment to Demand resulting from an increased/decreased need for foreigners to bother exchanging their currency for yours (to buy your domestically produced products/services, they must buy your currency).

Last night’s explanation, and my theory, is that the British Pound is being kept overvalued by a tight monetary policy imposed by the Brits for the past ten years or so. Having a stagnant economy at the macro level means that their currency is no more in demand today for products than it was ten years ago. In order to keep the value up, relative to other currencies, they have simply kept the amount of Pounds available for trade: scarce. This has helped to “maintain” the intrinsic value of the currency.

The US Dollar, in comparison, is losing intrinsic value. The arguments for and against this idea are everywhere, and good explanations are typically in line for Nobel Prizes so I won’t offend you by trying my hand at a detailed theory. Suffice to say: we don’t actually build as much as we used to (fewer things to sell to foreign interests), and our investment products are really shaky right now (bonds have crap yield, and the US stock market STILL looks overvalued), so no one is banging down our door, begging for US Dollars to buy our stuff (most of our “stuff” is made in India or Mexico anyway) or invest in our markets. Similar to the Pound, Foreign Demand is pretty much static (if not falling, slightly) for the US Dollar.

This would make the two currencies neck-and-neck to garner last place in the currency appreciation competition.

However, the US Dollar is experiencing expansion through huge underwritings to fill orders and financing gaps for various wars and “economic stimulus packages” that are being candied out across the globe. This requires the equivalent of printing money. Not that the government does so literally, but by the Federal Reserve’s underwriting of more government bonds to sell, to raise that capital, it has the effect of expanding the available Dollars for Foreign purchase. So, you have an increasing of Supply without any parity in Demand (still, no one is begging the US for their Dollars), so the value falls relative to other currencies until deals-for-Dollars get struck. The Dollar has to get cheap enough before anyone else bothers to want it.

To make matters worse, the EURO has been eating away at the foundation of the Dollar since the beginning of this decade. After WWII, the US Dollar was the standard prop for the various and sundry currencies issued by every war-ravaged European country. The Europeans essentially traded all their store of value (gold, mainly) for US Dollars to buy US goods and services to rebuild everything. Physical Dollar bills replaced the gold deposits that once backed European currencies. This meant that each individual country’s own currency was dependent upon the strength of the US Dollar (the Dollar Standard vs Gold Standard). Today, the relative strength of the EURO is allowing countries to sell the US all those Dollars back, replacing that store of value with their own currency (and in some cases, probably gold too), which was one of the EU’s main directives in establishing their own currency: to get off the Dollar Standard. Now, the European community has less of a stake (although, still impressive) in the strength of the Dollar, and will not be as eager to prop up its value as it used to be.

That’s the short version. And it is strictly my opinion. Feel free to lash me with fancy facts and whatnot.

Word to the unrelenting hangover.