The incredible shrinking dollar

Dian Cohen July 28 1986

The incredible shrinking dollar

Dian Cohen July 28 1986

The incredible shrinking dollar


Dian Cohen

Canadians depend on exporting goods to the United States for their standard of living. But Washington has embarked on a set of policies designed to keep selected exports out of the country. The main action is directed against Japan, which has a trade surplus with the United States of $55 billion. But Canada, with a trade surplus of $18.6 billion, is in jeopardy too.

American policymakers have acted as though they believed that the inability of American manufacturing companies to compete was the result of a too-expensive U.S. dollar. So nearly a year ago they forced down the value of the then high-flying currency. This action was meant to perform several functions. First, by making the U.S. dollar cheaper in terms of marks, yen and francs, U.S. goods would become cheaper and therefore easier to sell abroad. Second, by making marks, yen and francs more expensive in terms of U.S. dollars, foreign goods would appear less attractive to Americans, who would then switch to domestically made goods.

Since then, the U.S. dollar has lost 30 per cent of its value abroad, but the American trade deficit with Japan has failed to improve. Some people are beginning to think that it never will improve and that, because the premise of devaluation is wrong, the U.S. trade deficit will continue to grow—prompting lawmakers to adopt more draconian measures of protectionism.

Here is how the policy should have worked. The 35-per-cent appreciation in the value of the yen since last September should have made Japanese exports less attractive to American buyers. A fall in demand should have prompted Japan to reduce its shipments by as much as 40 per cent in 1986, thereby preventing the dollar numbers of the U.S. trade deficit from rising. For the dollar numbers of the deficit to go down, the cut in shipments would have had to be as much as 50 per cent.

But that is not happening. Japan’s main exports to the United States include cars, video cassette recorders and computer memory chips. American consumers have proven willing to pay a higher price for these goods. With continuing demand, Japanese manufacturers have had no reason to

reduce their export volume. The nine

Japanese passenger car manufacturers will ship more than two million cars in 1986, approximately as many as they did in 1985. It does not take much mathematical wizardry to recognize that if the volume remains the same but the price goes up by 35 per cent, the bottom line is that the dollar value of that trade will go up. If the yen stays around 160 to the American dollar, the U.S. trade deficit with Japan could rise by close to $30 billion.

That’s bad enough, but there’s more. The currencies of many of the Far East’s newly industrialized countries, or NlCs (South Korea, Taiwan, Singapore, for example) are more or less pegged to the American dollar. So when the dollar’s value drops, the NlCs’ products become cheaper. Those countries’ trade surpluses with the United States will expand before the end of this year. Meanwhile, many Japanese and many U.S. companies operating in Japan have

It is essential to understand that there is more to dealing with trade imbalances than ftddling with exchange rates

moved their headquarters to one or more of the NlCs. Although the country of origin will not be Japan, the trade surplus of all the Far Eastern countries

together will continue to grow.

As these trade surpluses increase, there will be mounting U.S. pressure to make the yen even more expensive. On the basis of the American response to a wide variety of Canadian exports, it is not difficult to imagine a similar scenario in which U.S. officials demand a similar increase in the value of the Canadian dollar. That could spell disaster, since our competitiveness relies on a cheap Canadian dollar.

It is essential to recognize that there is more to trade imbalances than fiddling with exchange rates. As Kenichi Ohmae, managing director of McKinsey & Co. in Japan, pointed out recently, the definition of what is foreign may have to change. For example, he asks, is the $6 billion in Japanese exports to the United States sent by American companies operating in Japan foreign? Should the $20 billion of components produced in Japan for inclusion in larger U.S.-built products be

counted as Japanese exports? Ohmae makes an important point when he says that the NlCs creating their own trade surpluses with the United States “are not ‘new Japans,’ ready to become competitors of the United States.” Added Ohmae: “Taiwan’s economy, for example, rests on American and Japanese multinationals and thousands of cottage industries serving them. These countries have become part of the American manufacturing sector.” There are no corporate nationalities now that American and Canadian branch plants exist in Japan, Taiwan and Malaysia, and Japanese color TV manufacturers produce in California and Tennessee.

The solutions to restoring trade balances rest less with forcing currency changes and more with understanding how much the world of business has modified in the past dozen years. Two decades of inflation have imposed significant changes. Before 1965 investors made their choices on the basis of a corporation’s economic viability. But since inflation has destroyed our concept of what has value, investors have shifted their perspective from being interested in the business itself to being interested simply in its short-term return on investment. The mood of uncertainty and a lingering fear of a return to our recent inflationary past have made company directors wary of making heavy capital expenditures such as retooling and modernizing plants. Even now, after a year of low interest rates, low inflation and low energy prices, the attitude prevails that investing in manufacturing is a risky business.

We in Canada have been equally reluctant to face this fact, and now we must cope with declining industries that need to be restructured if we are going to have anything to sell to the world in another 10 years.

The United States, meanwhile, has managed to delude not only itself but the rest of the world in maintaining that the expensive U.S. dollar is at the heart of the problem. Canada could do a great service to itself and possibly its neighbor by embarking on an action plan that includes rebuilding Canadian manufacturing industries. If we do not succeed, we stand to be caught in the cross fire—wiped out by the superiority of developing countries and shut out by American protectionism.

Dian Cohen is a Montreal-based, economics writer