How to manipulate the US dollar

0:05Pushkin. Can we make America great again by making the US dollar weak again? This is Unhedged, the markets and finance show from the Financial Times and Pushkin. I am Rob Armstrong coming to you from Unhedged World Headquarters in New York City. Joined today by Aidan Reiter, very excitingly the newest member of the Unhedged team, who started work with us three days ago, is that right? Yeah, Monday. Welcome, Aidan. Thank you. How's it been so far? It's been great. Say something nice. It's been fantastic, and I'm just happy to give listeners a tenor to match Rob's bass. I wish I knew some bass part from, like, a Puccini opera that I could just...

0:54I am the very model of a modern major general. Is that Pirates of Penzance? I don't know. Enough musical theater. Your first assignment, just about, as an unhedged writer, was handed to you by none other than the former president of the United States, Donald Trump, who said in a recent interview that he hated the strong dollar, that it was terribly unfair, that other currencies were too weak, especially the Chinese currency, and that something had to be done. So I asked you to go off and find out what could be done. Yeah, and you know, it's unclear if this would really happen. He's definitely of two minds when it comes to the strong dollar.

1:41On the one hand, he doesn't like the strong dollar. He thinks it negatively impacts the United States. On the other hand, he wants everybody to use the dollar, and that would imply the dollar gets stronger. In this area, as in so many others. Yes, he's definitely of a split mind. But there's people in his camp who clearly want to go down this road. Robert Lighthizer has written about this in his book. and it's kind of been kicking around since... Robert Lighthizer, I should say, is a longtime advisor, economic advisor to Trump's and potentially our next treasury secretary should Trump win. Yes, indeed.

2:09And he has been a long proponent of weakening the dollar. And the idea here, very most broadly, is that with a weak dollar, it is American stuff is cheaper for the rest of the world. More foreigners buy American stuff. the trade deficit, which Trump really hates, gets smaller. Exactly. And it would allow the U.S. to get a more competitive advantage on the international trade market over China, which he in 2019 accused of currency manipulation. Okay. Let's assume that there is a second Trump administration, and that administration actually means to go through with weakening the American dollar.

2:53What are their options? So there's essentially four options on the table. First is to actually go in and intervene in the international currency market. The second would be either coercing other countries or coordinating with them to weaken the dollar. Third would just be to spook the market and hope they don't call your bluff. And finally, and probably the most draconian, is to place a tax or some other levy on foreigners holding U.S. assets or dollars. Okay, let's walk through the different options one by one. Door number one, intervening in the market. How does that work? Essentially, the United States has a certain amount of money it can use to go intervene in the market and flood it with dollars, which would weaken the value of the dollar.

3:37So there is the exchange stabilization fund, which is under the control of the U.S. Treasury secretary. So he can use that. It's currently a mixed bag of foreign assets and U.S. treasuries that they can use to go intervene in the market. Is this any different from what Japan does to control its interest rate? So it's somewhat different from what Japan does control its interest rate. But it's the same as what Japan has done to intervene in the value of the yen. So the Ministry of Finance, because of how Japan has controlled its interest rate, they have a lot, a lot of yen that they're just sitting on.

4:11So what they have done is they've gone into the market to try to strengthen the yen. But because the interest rate fundamentals are such that it's so much cheaper to borrow in the yen, essentially every time they go intervene in the market, it's like burning currency. Indeed. And that is exactly kind of my point. Wouldn't it take a lot of big, beautiful American dollars to affect what is a huge liquid currency market? Yes. And arguably the exchange stabilization fund, which is how you go about this, is not even big enough to do one intervention. Yes. So look at the Japanese yen. Every time the Ministry of Finance has intervened, and they've done it about three times in the past year, each time it's about$69 billion.

4:53They just throw it into the market, right? The U.S. economy is about four to five times the size of Japan. The U.S. dollar is much more liquid and much more traded. The exchange stabilization fund is just$200 billion. So you throw$200 billion in the market and the market sort of giggles and releases a small burp and goes on exactly as before. Precisely. And I cannot imagine the politics of taking$200 billion in this economy and just going and burning it on the market. That would not go well. A couple of questions. The first is in the interview, Trump didn't talk about intervening in the currency.

5:29What he actually talked about was forcing other countries to strengthen their currency. So he was talking about threatening tariffs if they didn't let their currencies strengthen. Is that the same thing? Not the same thing. Actually, I think that brings us to option two, which is doing something coordinated. Essentially, if you just throw and do a unilateral intervention, if the economic fundamentals don't change, then essentially, again, you're burning the dollars on the market because, as you said, the market will just burp and say, thanks so much for this money. We're just going to go back to the dollar.

6:04Price the dollar however we want. Exactly. So the way to really do it is to get the broader international exchange rates and broader international market to switch right. A strong dollar only exists in opposition to a weaker other currency. Now, this gives me an opportunity to talk about Ronald Reagan, which is something I'm always looking to talk about. So this sounds like what we did with the Plaza Accords. Indeed. When the world was very anxious in the 80s about Japan's dominance as a manufacturer. And if I remember my history correctly, everyone sort of ganged up on Japan and said, we have to change the currency exchange rate or something terrible is going to happen.

6:45Am I remembering that correctly? Yeah, that's just about right. Essentially, Ronald Reagan and U.S. Congress were coerced by manufacturers or they thought it was the right thing to do to go get the world to change the U.S. dollar in order to balance it against Japan and some other weaker currencies. And the reason they had to do that was also because of economic fundamentals. Rates were super high in the U.S., not as high elsewhere. And that's kind of what we're seeing right now. Right. Okay. So it sounds like there is a nice analogy between that era and this era, except you scrub out Japan and you write China.

7:23China is scaring the whole world with its manufacturing prowess. It's already been labeled a currency manipulator. It does control, it does peg its currency at a lowish rate to the dollar. why don't we have a new set of accords? Where would Trump have his accords? Not in the plaza. In the Trump Hotel probably. Yeah, the Mar-a-Lago Accords where the world gangs up on China. What's wrong with that idea? Well, when the world quote-unquote game talk about Japan, Japan also came to the table. You can't need them to tango. China is not interested in doing that, right? Having a weaker currency to the dollar is a huge part of their macroeconomic strategy.

8:05And despite Trump's claims in 2019 that they were a currency manipulator, it didn't really result in much. Also, the broader economic situation is such that no other economy, because the yen is so weak and because China threatens this overcapacity to flood other markets, no other economy is really going to want to strengthen their currency at the same time, especially China's not there. And there's very little that these economies can do. Yes, they can try to change their value relative to the yen. But if China is still intervening with the yuan, then you still have a weak currency. I think you just invented a word there, interventing.

8:38I need to have a grammar intervention here. So if I understand you correctly, China kind of has a veto on the coordinated action strategy. Essentially. We might sum up that way. Right. The prospect of China flooding the market will stop other economies from doing this. And if other economies do this with a dollar, China probably wouldn't go along either way. So they have a veto. Okay, that's options number one and number two. That is coordinated. Trump, as you said, could threaten tariffs against all these countries. But again, because they don't want to see their economies flooded by Chinese goods, they would probably rather take the tariffs than manipulate their currencies.

9:17Ah, okay. Okay, very good. What's number three? Number three is spook the market. Right. Scare everyone. Trump could just say he was going to pursue this policy. Right. And then the market might react such. He could also even mess with the exchange stabilization fund just once, a small sell-off, and maybe that will cause the market to go. But as we've said and you said in the last podcast, there's the dollar smile effect. When things aren't good, people go back to the dollar. Yes. So even if he spooks the market sufficiently, people will still run back to the dollar and will go back up again. For those of us who wish to manipulate the dollar, the situation is suddenly looking a little bleak, Hayden.

9:54I hope we have something good in store for option number four. Option number four is probably the most potentially effective of these, but also it's the one that has the most ill portent for markets. So tax foreign holdings on US dollars and assets. Essentially try to stop the capital inflows that make the dollar stronger than it arguably should be. Right. So everybody in the world wants the dollar for a million reasons. It's super liquid. It's attached to a huge economy. Everybody accepts it. There's a lot of things you want to buy with dollars, treasuries, American stocks, et cetera. If I understand you correctly, the proposal here is that you just make it harder to buy dollars.

10:39You tax those transactions. Yeah, tax those transactions, make sure that there is a cost sufficient to holding a dollar that people would want to put their money elsewhere. And this is actually something that has some bipartisan support. This is not just something coming out of the Trump camp. There was a proposal by Senators Josh Hawley and Tammy Baldwin, a Republican and a Democrat, to pursue this. Could you just, in a really simple way, Aidan, explain to me how that works? Yeah, there's a couple of ways this manifests. But the most basic principle is that all these flows coming in makes the dollar worth more than it some would argue it should be.

11:12And because the dollar is worth more than it arguably should be, Americans are able to buy things abroad easier and it's more expensive for Americans to export things. Yes, and that's the trade deficit effect. That's the trade deficit. And there's other things that would change on a broader macroeconomic level, but the trade deficit would be one of the impacts. So I'm warming up nicely to this idea. And also it would generate revenue, right? Instead of spending dollars intervening in the market, you're putting a tax on foreigners. So you're not even taxing Americans. And you're generating revenue for the treasury.

11:44This sounds like Christmas came early. Arguably a tariff also creates revenue. Yes. But at the end of the day, there's some really important economic impacts to doing something like this. Same thing with doing a tariff, right? We have 16 Nobel laureates wrote a letter saying these proposed policies, whether they be tariffs or dollar devaluation, would be inflationary. Tariffs, as many people have said, are inflationary. Arguably, dollar devaluation would be inflationary in the same way. Okay, let's walk through that. So you weaken the dollar. Why does inflation now have to go up? So, Americans, first of all, Americans would not love the idea of their dollars being worth less.

12:20We don't like the word weak, just in general. Everything in America is strong. But, you know, in terms of the trade deficit and inflation, if it's now more expensive for me to import things, that causes the cost of those goods to go up. You would need some form of substitute in the domestic economy in order to fill that so that you have a broader price stabilization. So I'm buying my bicycle. I'm sure it was manufactured in China. Under the proposal here, the dollar gets weaker because we've taxed inflows of capital into the United States. Now the Chinese bicycle becomes more expensive. And I go to a bicycle factory in America to buy my bicycle.

13:04And I'm not sure how many bicycle factories there are in America, but I imagine it's fewer than in China. And so there's going to be this lag, this delay between us sourcing the goods and building up the manufacturing capacity in the United States to fill the things that will now be more expensive. So there will be an inflationary shock. And that's not just true of the taxing foreign holdings. That's true of any of these dollar devaluation approaches. So inflation or the risk of inflation is one problem with trying to manipulate the dollar down. Is that the only problem? If we can handle a little inflation, are we okay?

13:39Not necessarily. Taxing foreign holdings has this other unique outcome. While it might be the most effective way to close the trade deficit, it's also potentially the most effective way to tamper with the market. As on Hedge has written before, in a world full of capital controls and in a world where everybody wants the dollar and there are relatively few capital controls on the dollar, money and capital inflows come flooding into the United States, which pumps up our assets. It pumps up the dollar and arguably allows us to borrow at the rate that would allow us to pump up our own economy and do all the things we actually need to do in the economy.

14:12And I should probably note that capital controls elsewhere are not the only reason that money comes flooding into the United States. We also have a huge market. It's really liquid. It's easy to get into in that sense. We have really good companies. We have rule of law. So your capital is relatively safe here and there's – you can appeal to the courts if something goes terribly wrong. So there's a lot of reasons people are jamming money into the United States, which explains why American stocks are so much more expensive than European stocks, Japanese stocks, Chinese stocks. Yeah. And if you suddenly cut those flows short, there would be a major repricing on the market.

14:53Yes. It would be probably pretty fast. It could involve a big tumble. And yes, things might stabilize after a while. But that first big tumble is going to be hugely, hugely impactful. There's going to be an adjustment to a world in which the capital of every country is no longer forming a line to cram into the S &P 500. Some people would say that's actually a better outcome for the United States and the world. Really, you know, according to a lot of economists, capital should be flowing to developing countries and to these untapped markets. Okay, so wrapping up, is this all just talk? Is any of this stuff going to happen in the foreseeable future?

15:30Could it happen in the foreseeable future? that America's had enough of the strong dollar and decides to do something about it? Well, I think there's two ways we need to look at that. The first is, you know, the economic fundamentals are likely going to change in the coming months. The market's already expecting inflation to come down, interest rates to come down. Once the interest rate differential between the U.S. and other countries comes down, it's not going to be as much of a problem between the U.S. and European allies. It might still be a problem with China. But, you know, Trump has already said he wants to do 60 % tariffs on China.

16:00That might just take care of some of those issues. altogether. But in terms of whether or not a Trump administration would want to do this, there are some people like Robert Lighthizer who have been very bullish on the prospect of doing something like this. But as we just walked through, it's both costly and hard to do. And there's some really, really major political and economic ramifications that the Trump administration or any administration that wants to do this would probably want to avoid. Well, we can't have any of those ramifications. Thanks for that, Aidan. We'll be right back with Long and Short.

16:41This is long and short, that part of the show where we go long things we like and short things that we do not like. We can also say it's the name for the unhedged writing duo now with Rob well above six feet and me at a measly five, nine, five, ten. Aidan, do you have a long or a short for us? I do. I am long tomatoes. It is the end of July. Tomato season is coming upon us. I am extremely excited to go back to Connecticut where I'm from, jump in the car and go to all the farmer's markets to try to track down all the delicious tomatoes to make all the wonderful summer salads. Yeah, it's true. I think of it the other way.

17:22We have like 10 months of disgusting tomatoes in America. And then there's like a six-week window where you can have a decent tomato. And when I'm in charge of the country, I will not be manipulating the currency. I will be making it illegal to sell tomatoes during the other months of the year. I am long competition. We wrote a story yesterday about a stock of a company called Lamb Westin that makes French fries. And its stock took a vicious tumble. And the long and short of it was during the pandemic and the associated inflation, Lamb Weston was able to charge a lot for its French fries. It was able to jack up prices.

18:08It was a hot potato. It was a hot potato. What we learned from its latest earnings report is that competition has pumped up. Fast food restaurants are competing on price with one another again. They're passing the pain on to Lamb Weston's French fry operations and the competitive function of the economy, which sort of went on holiday during the pandemic, seems to be back, at least in the French fry world. Listeners, eat tomatoes, eat French fries and come back to Unhedged, which will be in your feet again next week. Unhedged is produced by Jake Harper and edited by Bryant Erstat. Our executive producer is Jacob Goldstein.

18:59We had additional help from Topher Forges. Cheryl Brumley is the FT's global head of audio. Special thanks to Laura Clark, Alistair Mackey, Greta Cohn, and Natalie Sadler. FT Premium subscribers can get the Unhedged newsletter for free. A 30-day free trial is available to everyone else. Just go to ft.com slash unhedged offer. I'm Rob Armstrong. Thanks for listening.

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