Will the US Need Its Floor Rate?

Since June, the dollar has gained 24 percent. It is at its highest level in over 11 years. It’s the price that the American economy pays for its good health.

“We would have preferred that another central bank, like the American Federal Reserve, give it a try before us,” a Genevan banker let slip a few days ago, regarding the floor rate between the euro and the franc. Because while the Swiss National Bank had overall been commended during the introduction of the measure, numerous analysts have criticized the absence of an exit strategy and the impression of yielding in the panic.

Since the financial crisis, it’s the Fed that has played God. Certainly, Japan has already tried to emerge from a decade of deflation, but the scale of interventions was not the same. The American institution launched several asset repurchase programs (quantitative easing) in order to maintain activity in the wake of the Lehman Brothers bankruptcy, which, in part, inspired the plan that undermined the European Central Bank.

It cannot be determined if, truly, the Fed’s QE has enabled the American economy to recover since the 2008 plunge. But the fact is that it’s doing much better than in developed countries in general. Growth was 2.2 percent in the last trimester of 2014, after a leap from 5 percent in the third, and it is expected to reach a higher level in 2015 (3.6 percent according to the International Monetary Fund), while Europe is having a difficult time leaving economic stagnation. Friday, labor market figures showed further improvement. The unemployment rate reached 5.5 percent in February – its lowest level since 2008 – while it rose to 5.7 percent the previous months, and analysts aimed for 5.6 percent. Furthermore, job creation has continued at an elevated tempo.

With the exchange rate responding largely to the evolution of the economic basics in a country, the United States is beginning to pay the price of this relative good health with a dollar that does not stop growing. Once the QE plug had been disconnected, in 2014, the U.S. dollar began a rise that has been continual since the beginning of the year. If one had imagined that the markets had anticipated – rightly – a massive intervention from the ECB, and that all of this was included in the prices, it should be noted that this was not the case. Wednesday, the fall of the euro continued. The euro was worth $1.0538. And it also grows against the franc, finding itself at its level before the removal of the floor rate, last Jan. 15.

The dollar hasn’t been this strong in 11 years. Since June, the increase has been 24 percent. It is enough to impose a drastic system for exporter’s profit margins. Goldman Sachs developed a model permitting the calculation of the impact of the increase in currency on the profits of companies in the S&P 500. So, an appreciation of 10 percent of the U.S. dollar before a bunch of currencies implies a reduction in profit of $3 per share. On average, according to a consensus reached by Bloomberg, American firms will make a profit of $123.52 per share this year. Analysts are counting on a decrease of 5.1 percent in profits this trimester, compared with the previous trimester, where the increase had been 4.4 percent. If they are right, it will be the first fall/drop since 2009.

Not to arrange anything in the scene, but the prospect of the Fed increasing interest rates also stimulates the appreciation of the dollar. Janet Yellen, the institution’s president, could initiate the first time policy tightening since the crisis as early as this summer.

The American economy is no longer strangled by the strength of its currency, and it never will be as well as Switzerland, which depends largely on its export companies, but its economy’s rebound has been due largely to this industry, which has profited from a weak dollar during the course of the past few years. An added risk is that of deflation: The increase in prices is already limited by the fall in oil prices, and will be further limited by the decrease in the price of imported goods.

In this context, the United States could dream of its own floor rate, between the dollar and the currencies of its main economic partners. Evidently, the difficulties that the SNB has had keeping its floor rate without its balance taking stratospheric sizes/shares gives an idea of those difficulties that the Fed will have in order to control the value of the dollar. A large part of the 4 billion that changes hands every day on the currency market affects American currency. Influencing its evolution would thus necessitate astronomical sums, with no guarantee of success. And that is the problem: Currency is a virtually uncontrollable part of the economic equation. Countries should resign themselves to this for the future.