Jacob Heilbrunn

Should the Dollar Crash?

Would America be better off with a worthless currency? That's the question that the Wall Street Journal raises today. There are a plethora of reasons to ponder this question, which affects everyone from tourists purchasing a cup of coffee in Europe to businesses.

For one thing, if Republicans and Democrats fail to raise the debt ceiling, then the dollar is likely to plummet. The amazing thing is probably that the dollar hasn't already plummeted (though it is quite weak already). Given the deficits that America has been running, it's probably overvalued. But then again, Greece's maladies have helped hold down the value of the Euro. In the current issue of Foreign Affairs, Steven Rattner suggests that if Germany had its own independent currency, the Deutsche Mark would be worth thirty to forty percent more than the Euro.

America has experienced the upside of a flaccid dollar. The Journal reports that U.S. exports were $1.3 trillion last year, a significant rise from the $697 billion of 2002. It estimates that a "quarter of that increase likely stemmed from the weaker dollar." The weaker the dollar, the cheaper U.S. goods become for foreigners. But that poses the risk of inflation as imported goods become increasingly expensive for American consumers. England, incidentally, is in the same bind. While some British conservatives continue to trumpet their opposition to the Euro and point to the Greek troubles as a sign of the havoc that European unification can wreak, the UK faces the twin dangers of inflation and high unemployment.

For now, warnings about inflation sound as though they are emanating from a bunch of Cassandras. But in the 1970s inflation took off and took almost a decade to whip. Once expectations set in, inflation becomes tantamount to a self-reinforcing doctrine. And a rise in inflation, the Journal notes, would hit the government hard as well:

Even a modest increase in inflation might make bond investors jumpy. If so, they would demand higher yields on bonds to compensate for greater risks that inflation will shrink their returns. Big foreign investors in U.S. government debt also might recoil if the dollar fell too far, forcing the U.S. to pay higher rates. Higher borrowing costs probably would slow the economy and increase unemployment.

Relying on a weak currency, then, is no recipe for long-term growth. Even China is starting to let the yuan appreciate gradually. A debauched U.S. dollar cannot serve as an end-run around the very real economic problems that President Obama has been unable to solve.