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At Baldor Electric, which is based in Fort Smith, Ark., but sells its industrial motors around the world, these are flush times. After several sluggish years, profit margins are expanding again, revenue is soaring, and earnings will rise 30% this year. Its sales in 70 countries are booming — from Canada to Germany to China. "Our international business is up almost double our domestic business," says CEO John McFarland.
Yet things are very different for manufacturers based in some of the same countries where Baldor is doing so well. Weinig Gruppe, a midsize machinery maker near the city of Würzburg, Germany, has resorted to discounts to protect its global market share. Sales growth is stalling; profit margins are shriveling. Even with incentives, says CEO Rainer Hundsdorfer, "we've seen a slight decrease in business. Prices have to give."
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This tale of two companies has little to do with what either one makes or how well each makes it and, far from being isolated cases, their plights echo through the boardrooms of thousands of big and small companies around the world. Success these days is determined in part by something no company can control: the value of the U.S. dollar — the world's most trusted currency, which has been melting away for three years. Currency moves are a normal part of global trade. Their impact generally is best left for financial geeks and really bored people to ponder. But not now. The dollar's long slide — and widespread expectations that it will slip further — has officials on three continents fearing that their economies are stretched to the breaking point. They're assigning plenty of blame anywhere but their own backyard, and the accountability void only deepens worries of a dollar-induced global-domino recession.
Is the falling dollar really such a big deal? Since 2001, it is down 33% against the euro and 20% against the Japanese yen and has weakened against the pound and Canadian dollar as well. This broad slide has made goods produced in the U.S. more affordable to foreigners with stronger currencies. In the short run, foreign buying is a boon to U.S. factories that only now are emerging from their worst rut since the Great Depression. In fact, though U.S. officials say they want a strong dollar, the open secret in Washington is that they are in no rush to make it happen. For one thing, the steps the U.S. must take to shore up the buck are painful, probably involving some combination of tax hikes and budget cuts to rein in the U.S.'s massive borrowing needs. The federal budget deficit tops $400 billion, and tallying all forms of money flowing in and out of the nation, the country's total accounts deficit will come to about $665 billion this year, or a record 5.7% of GDP. President George W. Bush has said he wants to cut that deficit. Again, few believe he will take measurable steps until he has run out of options, because his plans for private Social Security accounts and making tax cuts permanent would require money the government doesn't have.
Besides, the weak dollar is a big factor in the revived manufacturing sector. After some lean years, exports are picking up, and factory profits are on a roll. In the third quarter alone, equipment maker Caterpillar attributed $102 million of sales largely to the benefits of a falling dollar. General Motors is opening new Cadillac dealerships in Europe. "The drop in the value of the dollar certainly helps," says James Taylor, Cadillac manager in Detroit. Other U.S. multinationals are reaping windfalls too, converting overseas revenues into the weak dollar and getting more of them.
That is all good stuff, for now. But over the long haul, a banana-republic dollar could lead to inflation, higher interest rates and a recession likely to spill around the planet. In the past, the strong dollar allowed the U.S. government to borrow cheaply and attract investment in the safest currency on the globe. That helped finance the budget deficit, kept interest rates low and also allowed Americans, as individuals and collectively through their government, to spend way beyond their means. Foreigners are big buyers of mortgage securities, which make purchasing that McMansion more affordable. They hold nearly $2 trillion of Treasury securities, keeping government costs low enough to allow the President to consider his new initiatives. But foreigners may be reaching their saturation point when it comes to funding the U.S.'s profligate lifestyle. The nation sucks up 80% of the world's available savings. If the dollar loses its cachet, foreigners will demand higher interest rates, which, if they rise fast or far enough, could topple the economy.
European Pain
Americans traveling in Europe, where their dollars don't go very far, are feeling some pain. While vacationing in Paris last week, university professor Maria Armanda was surprised to find "a bottle of Coca-Cola outside the bus stop was $2.60. That's unheard of! I needed the caffeine, or I wouldn't have bought it." Trina Chang, a Californian backpacking through Europe, says, "We were going to buy two oranges this morning, but they cost so much, we put them back. It's so expensive, it's so sad." More important, the cost of foreign goods in the U.S. is increasing. Consider: at import-foods shop A Southern Season in Chapel Hill, N.C., a pound of European Brie has shot from $6.99 to $8.29 in a year, and even at that price, the store makes less profit. "We try to educate our staff" about the dollar impact so they can explain the prices to angry customers, says manager Briggs Wesche. And it's not just cheese and other luxury imports: every American buys foreign goods, from TVs to food to clothes — often without knowing it — and many of those things will cost more too.
Hardest hit around the globe are the Europeans, whose exports are being squeezed by the cheap dollar and equally cheap Chinese yuan, which, to the dismay of global leaders, remains pegged at 8.3 yuan to the dollar. China has a large and growing trade surplus with the U.S., and American and European officials argue that the cheap currency gives the Chinese an unfair advantage. Some Europeans are taking advantage of the robust euro to come to the U.S., where everything from iPods to Gap jeans to four-star-hotel stays are suddenly a bargain. (Bookings are up 30% at Germany's largest tour company, TUI, which has been able to cut trip prices as much as 26%.) But euro-land companies are suffering. Exports from Germany to the U.S. are down 10%. Thierry Desmarest, CEO of French oil giant Total, says the dollar's move over the past two years means "we have practically lost one-third of our earnings." Bic, the French firm that makes disposable shavers, says the weak buck has shaved 75% off its sales growth.
Asia's Dollar Horde
Asians are dismayed too, but for different reasons. They are by far the biggest holders of U.S. debt, led by Japan's breathtaking Treasury holdings of $720 billion, followed by China with $174 billion. These sums have been building for years, as Asians, who sell far more goods in the U.S. than the U.S. sells in Asia, have taken their profits and invested in Treasury bonds — all of which are losing value as the dollar slips. At this point, Asians have little choice but to hold on and take their lumps, and not just because the large-scale dumping of dollars would crush the value of their remaining holdings. Shifting out of dollars could also be dangerous for the global economy, pushing the beleaguered currency even lower and triggering sharply higher interest rates in the U.S. That in turn would slow the U.S. economy and depress demand for all those imported goods, potentially triggering a worldwide recession.
Fear of that outcome probably is overblown. Foreign officials understand that the effects of dumping dollars would circle back and cripple their economies. In an interview with TIME, Masatsugu Asakawa, a top Japan Ministry of Finance official, said flatly there will be no dollar dumping. "Our foreign-reserve planning is in terms of 100 years," he said. Holding dollars, "sometimes we enjoy profit. Sometimes we suffer loss. So what?" The point is, it gives Japan flexibility. "Who knows when we might have to intervene to support the yen" after years of supporting the dollar? he asks.
Still, few U.S. economists feel comfortable that the fate of the economy sits largely in the hands of its creditors, especially when all parties are playing an international blame game. Europeans want the U.S. to cut the deficit; the U.S. wants Europe to stop whining and stimulate its economy, which would generate domestic demand and offset business lost to the U.S. and China because the weak dollar has made European goods so much more expensive. Both European and U.S. officials want China to revalue its yuan. With a hot economy and trade surplus, the Chinese, many Westerners believe, can handle a stronger currency, and there are signs that they will go along. The cheap yuan has begun to translate into higher inflation in China. A stronger currency would relieve some of that pressure. And two weeks ago, officials from the Chinese central bank met in the city of Guilin and asked "a lot of questions about what would happen if they ended the dollar peg and instead pegged the yuan to a basket of currencies," says a foreign banker who attended. "I hadn't heard those questions before."
That's a good sign. In this delicate balance, if the Japanese hold their dollars, if the Chinese let the yuan rise even a little and suggest they are willing to go further, if Europe does something to jump-start demand at home, and if the U.S. addresses its budget shortfall — well, we may just escape this jam without a scratch. That's a lot of ifs. But, thankfully, everyone has something at stake.
- Daniel Kadlec