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Exchange rates: and the Utah exporter.

EXCHANGE RATES and the Utah Exporter

The foreign exchange market determines a currency's relative value. As in any free market, the interaction of supply and demand sets the price. While there are various forms of governmental intervention, exchange controls, and other imperfections, market forces are usually the most important influence impacting exchange rates.

The demand for a particular currency is derived from the international demand for that country's goods, services, and financial investment opportunities. The supply of currency is primarily reflective of domestic monetary policies. The inflation rate is important for determining how the available supply of any particular currency matches up with demand. If the currency's supply exceeds demand, domestic prices will rise, and the exchange value normally will depreciate. Consequently, the international price of that country's goods and services will cheapen, and real investment returns will diminish. Inflation measures a currency's purchasing power compared to its own past value; exchange rates measure a currency's purchasing power relative to other currencies. Accordingly, the differences in inflation rates from nation to nation are key factors in understanding exchange-rate movements.

At any particular time, it is impossible to know the "true" exchange value. Frequently, the foreign exchange market over-corrects or exceeds what would analytically appear to be appropriate currency relationships in a purchasing-power comparison. The market, however, trades on expectations of future events rather than simply reflecting known historical and current realities. Therefore, the market-determined exchange relationships at any specific point may be "right," since they reflect the traders' consensus of future developments.

Setting Economic Policy

With respect to the U.S. dollar, exchange rates are an important component in monetary and economic policy considerations. If dollar exchange rates are very high, as they were in 1984 and 1985, U.S. products are expensive, and export industries are adversely impacted by enhanced competitive pressures and reduced export earnings. Conversely, when dollar exchange values are very low, U.S. exports are highly competitive. In this circumstances, however, domestic inflation and interest rates are very often rising, and dollar-denominated financial and real assets are cheap for foreign investors. Excessive exchange-rate swings in either direction are undesirable, but the consequences clearly are not symmetrical. The policy options, influence, and ease of change for a strong currency country far exceed those available to a country with a cheap currency. No nation ever depreciated its currency into prosperity.

Favorable Conditions for the Utah

Exporter

The current and anticipated U.S. exchange-rate structure is generally favorable for Utah and U.S. exporters. As the accompanying graphs show, quarterly average exchange rates have been relatively stable since 1987, varying primarily within a plus or minus 10-percent range from the 4.5-year average. During the first half of 1991 (using quarterly average data), the dollar has strengthened 6 percent against the yen, 16 percent against the mark, and 12 percent against the FRB currency index of the G-10 industrial countries. Despite this appreciation, current exchanges rates remain below those prevailing as recently as the fourth quarter of 1989 and are far lower than rates prevalent in the mid-1980s.

The Forecast

Prospects for the U.S.-dollar exchange rate continuing on the high side of this trading range during the second half of 1991 appear likely. A mild U.S. economic recovery, accompanied by somewhat lower inflation, may actually raise real U.S. interest rates, thereby attracting foreign investors. Japan's economy will probably remain sluggish, and while retail price gains may have peaked near 3 percent, short-term interest rates in the months ahead may decline faster than inflation. The cost of German unification will exceed even the most liberal estimates. Germany's resulting inflation, higher interest rates, greatly enlarged government spending and a decelerating economy - combined with other Eastern European and USSR economic uncertainties - could further weaken the mark.

All things considered, the U.S. dollar should remain an international favorite in the months ahead.

Dr. Kelly K. Matthews is senior vice president and economist at First Security Corp.
 Table : YEAR QUARTER JAPANESE DEUTCHE U.S. DOLLAR
 YEN/$ MARK/$ FRB INDEX
1984 1 230.9 2.70 131.6
 2 229.8 2.71 132.8
 3 243.6 2.92 141.7
 4 246.1 3.06 147.2
1985 1 257.5 3.26 156.5
 2 250.8 3.09 149.1
 3 238.4 2.85 139.2
 4 207.2 2.58 128.2
1986 1 187.8 2.35 119.5
 2 169.9 2.24 114.2
 3 155.8 2.09 108.3
 4 160.5 2.01 107.0
1987 1 153.2 1.84 99.9
 2 142.7 1.81 97.0
 3 147.0 1.84 98.7
 4 135.7 1.71 92.3
1988 1 128.0 1.68 90.0
 2 125.7 1.71 90.4
 3 133.7 1.87 97.6
 4 125.2 1.77 93.0
1989 1 128.6 1.85 96.0
 2 138.0 1.93 100.4
 3 142.3 1.92 100.5
 4 143.1 1.81 97.3
1990 1 148.0 1.69 93.1
 2 155.4 1.68 92.7
 3 145.0 1.59 87.4
 4 130.9 1.50 83.0
1991 1 133.9 1.53 84.6
 2 138.4 1.74 93.1
 MidYr 139.1 1.82 96.0


TABLE 1: US Dollar FRB Index
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Copyright 1991 Gale, Cengage Learning. All rights reserved.

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Author:Matthews, Kelly K.
Publication:Utah Business
Date:Sep 1, 1991
Words:901
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