The Outlook for a Deficit Driven Dollar: Dollar Culprits Are Not Hard to Find. Lower Than Average U.S. Interest Rates and Talk of Central Banks Selling Dollars Have Provided More Than Their Fair Share of Contributions to a Weak Greenback. However, Many Insiders Rank the Twin Deficits-The Trade and Budget Deficits-As the Most Immediate Dollar Perpetrators and Predict That Today's Deficit Will Dictate Tomorrow's Dollar
Bauch, Carla Cavaletti, Modern Trader
As if "negative sentiment" isn't a bad enough description for the U.S. dollar these days, many analysts add words like "prevalent" and "widespread" to their long-term 2005 dollar forecasts. Most economists, and many traders, expect the dollar to weaken to $1.40 per euro by the end of this year. As a result, 2005 could be the fourth straight year that the greenback has dropped against the euro and the yen. The fundamentals just can't seem to move in the dollar's favor.
"It is kind of hard to go against the 500 pound gorilla of the twin deficits," says Bob Kozak, currency analyst with Alaron. Kozak, like many analysts, ranks the trade and budget deficits as the most prominent reasons why the dollar will remain weak throughout the year. He adds, "It takes double the amount of good news to move the dollar higher these days and half the amount of negative news to move the dollar lower." Kozak forecasts the euro/dollar around $1.38-1.40 by year end and the dollar/yen at 101.
The deficits certainly did not provide the dollar much positive news in 2004. The U.S. trade gap continued to hit record highs last year, accounting for 5.7% of Gross Domestic Product (GDP). Chief currency analyst, Ashraf Laidi with MG Financial Group, explains that the United States imports approximately a fifth of the world's exports and that U.S. imports are 50% greater than exports. "Since 2001 imports averaged a monthly growth rate of 0.5% compared to 0.2% for exports. Should this trend continue, the trade deficit would surpass $60 billion in June 2005. Only in the unlikely event that U.S. exports grow twice as much as imports, such as 2% exports and 1% imports, will the deficit have more realistic ways of reversing," states Laidi in one of his January commentaries. Laidi's forecasts for July 2005 pegs the euro/dollar at $1.35, the dollar/yen at 101, the sterling/dollar at 1.94 and the dollar/Swiss at 1.14.
Brian Dolan, director of research with GAIN Capital, agrees that for the dollar to rise, the deficit dilemma needs to improve. Dolan, who believes the dollar is in a range trading condition, says, "The twin deficits continue to hang over the dollar and they are unlikely to show signs of improving.: He adds that to see a higher dollar, the market will need to see both oil prices and the deficits go down. "In December I made the forecast that the combination of dollar negatives, such as the twin deficits and wage increases that were not sufficient enough to fuel consumer spending, would lead to a considerable period of sideways trading from 1.28 to 1.35 through the first quarter of 2005. I am extending that forecast out into the middle of the year," Dolan says.
Kurt Hoeksema, chief forex dealer with Global Forex Trading, however, offers an outlook that is a bit more upbeat. He believes the economy is on the right track again. GDP grew 4.4% during 2004, much stronger than the 3% increase posted in 2003 and the strongest for any year since 1999 when it expanded 4.5%. Hoeksema says this revival will bring down the deficit. "At the end of '04 the dollar was weighed down by the budget and account deficit, but these fears are now beginning to leave the market," Hoeksema says. When interviewed in late February, Hoeksema said he was looking for some dollar strength in the near term and explained the dollar was at a key support area. "We believe the dollar will gain value against the yen," he says. His firm's dollar/yen forecast for the end of May is approximately 107. As for other currency pairs, by late May the firm expects to see the euro/dollar around $1.29, the euro/yen at about 138, the sterling/dollar around 1.87 and dollar/Swiss at approximately 1.20. Twelve-month forecasts, made in late February, are as follows: euro/dollar at 1.30, dollar/yen at 107, euro/yen at 138, sterling/dollar at 1.86 and dollar/Swiss at 1.20.
As for the widening budget deficit, all eyes are on the Bush administration and whether the president will meet his campaign promise to cut the deficit in half by the time he leaves office. …