Econ 102 final paper - KRISTIN CHEN ID #: 2000870 TA: HYUN...

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K RISTIN C HEN ID #: 2000870 TA: H YUN C HOE ; S ECTION #83 E CON 102 F INAL P APER “Weak Dollar 101” explains the causes of the depreciation of the U.S. dollar and emphasizes the widespread consequences and possible benefits a weak dollar may have on the U.S. economy. The article identifies the trade deficit and the budget deficit as the two main factors responsible for currency depreciation and warns that the Fed has relatively few tools to fight both. Though the 2004 Bush administration claims it favors a strong dollar, currency traders interpret the administration’s actions as otherwise. The government’s current method of funding the federal budget deficit may significantly curtail foreign investment, especially if increasing trade and budget gaps continue to exceed foreign demand for U.S. assets, specifically stock and government debt. Additionally, a weak dollar hurts the U.S. economy by impairing firms’ profits and putting upward pressure on oil prices; however, currency depreciation of the U.S. dollar can also act as a stimulus to the economy. The article states that the Fed should take action to prevent U.S. currency from depreciating further. Possible solutions include a decline in oil prices to reduce the trade deficit or a major policy move towards deficit cutting. Another potential solution to reduce the trade deficit mentioned in the article is convincing China to allow its currency to float freely instead of being pegged to the dollar. In the long run, this could reduce the U.S.’s trade deficit with China by limiting Chinese exports to the U.S. and making Chinese imports seem more expensive. However, in the short run, a floating yuan would actually put further stress on the already weak dollar. The most significant points conveyed in this article were the impacts of a weak dollar on the U.S. economy. The article cites three key areas where weakness will negatively impact the U.S. economy: foreign investment, corporations, and oil prices. Depreciating currency will curtail foreign investment because higher government bond yields will be needed to attract investors. Additionally, weakness also implies that foreign imports such as clothes and electronics will cost more to U.S. consumers. In fact, a weak dollar may create a vicious downward spiral of currency depreciation. If Americans continue to purchase higher-priced imports instead of substituting them for cheaper domestic goods, the trade deficit will widen and ultimately put more pressure on the dollar. Another direct effect of a weak dollar
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This note was uploaded on 01/26/2009 for the course ECON 102 taught by Professor Kyle during the Spring '08 term at Cornell University (Engineering School).

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Econ 102 final paper - KRISTIN CHEN ID #: 2000870 TA: HYUN...

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