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OUR TAKE
On The Falling Dollar and You

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By Robert Brokamp (TMF Bro)
June 26, 2002

One of the most significant, though not necessarily headline-grabbing, stories in the world of finances today is the incredible shrinking dollar. Over the past month, the dollar has fallen approximately 10% when compared to the other major currencies. But is that good or bad for Americans? The answer: It depends. Here are some of the consequences of a weakening dollar.

  • Imports are more expensive. Since it costs more greenbacks to buy something from another country, foreign goods become pricier.
  • American goods are cheaper to foreign consumers. Since the currency in other countries gets more bang per each American buck, foreigners are more inclined to buy American goods. This can be a boost to U.S. companies that do a large chunk of business overseas.
  • If foreign investors expect the dollar to keep falling, they may take their money elsewhere. To buy U.S. investments, they first have to convert their money into U.S. dollars. Imagine a European (you can see him now, sitting at a sidewalk caf´┐Ż, smoking a cigarette, scoffing at American culture while drinking a Coke) who wants to buy a stock traded on an American exchange. He'd first have to convert his euros to dollars, then buy the stock. So, he's essentially buying two investments -- first the dollar, then the stock. But if the dollar drops 6% against the euro, he's that much in the hole, regardless of what the stock does. This phenomenon has persuaded foreign investors to pull their money out of the U.S. markets, contributing to the market's current woes. (On the other hand, American investors might find foreign investments more attractive.)

As you can see, when it comes to currencies, there's always another side of the coin. Just look at tourism. A strong dollar made it expensive for foreigners to come here, but it made traveling abroad a bargain for Americans. As the dollar weakens, more tourists will visit America, while we Yanks can no longer stay in European castles for just $100 a night.

What countries do want from their currency is stability, which the dollar did not provide today. After the announcement of WorldCom's (Nasdaq: WCOM) fraudulent practices, the euro rose two cents compared to the dollar, which is a monstrous move in the foreign exchange markets. This is a sign that investors are losing more and more confidence in the prospects of the U.S. economy.

To learn more about currencies and economies (what fun!), read the Federal Reserve's online booklet, Strong Dollar, Weak Dollar. For a plainspoken and entertaining explanation of economics, consider Jacob DeRooy's Economic Literacy.

The Motley Fool is investors writing for investors. To view a writer's current stock holdings, check out his or her online personal profile.






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