Why a Rising Dollar Isn’t Hurting the Economy
On my recent drive to catch a plane in Albany, I noticed a new sign on the side of an Interstate toll booth. It said “Canadian currency discounted 20%,” and it was taped directly over the previous sign, which used to say “Canadian currency discounted 10%.”
This is the most direct impact on everyday life that I have seen of the recent appreciation of the U.S. dollar. Since July of this year, the dollar has gained about 7 percent against the Canadian dollar (see chart 1). For the first half of 2014, the exchange rate averaged about 1.09 Canadian dollars per U.S. dollar. But by early December, it rose to about 1.14 Canadian dollars per U.S. dollar. Hence the new sign on the toll booths around Albany.
The U.S. dollar has appreciated against other currencies as well. Chart 2 shows the value of the dollar against the basket of currencies of our major trading partners. A higher value means more expensive dollar, and since July, the dollar has gained about 11 percent.
What effect will the dollar’s appreciation have on the economy, other than that Canadians visiting New York State will have to pay more at the toll booth?
In general, a more expensive dollar makes American-made products more expensive for other countries, reducing exports. It also makes imported goods cheaper for Americans, stimulating imports. These effects alone would reduce net exports, and thus slow the GDP growth.
This sounds like bad news for the economy. But it isn’t. This is because exports are a fairly small part of the U.S. economy, and the appreciating dollar has other beneficial effects.
In fact, net exports of goods and services did not change all that much since the dollar started its upward march. During all of 2014, the U.S. trade deficit has fluctuated between -$39 billion and -$46 billion. The latest reading, in October, was about in the middle of this range, at -$43.4 billion. (The values are negative because imports exceed exports.) Net exports account for less than 3 percent of GDP, so small changes in net exports result in only tiny changes in GDP.
Moreover, a more expensive dollar has one important beneficial effect—it lowers prices of raw materials, most importantly oil. Since July, the price of oil and the price of gasoline fell by more than 25 percent. And cheaper oil and gas are good for the economy.
So, other than the tolls for the Canadians, the dollar’s appreciation has not so far harmed the growth of the U.S. economy, and unlikely to do any harm in the future.