The impact of a declining dollar

November 14th, 2007 | by Andrew Ó Baoill |

As the dollar has continued to drop in value against the euro, I’ve predicted (with some trepidation) that it would be as low as $1.50 to the euro by the time I return to Ireland for Christmas. I must admit that I thought I was being somewhat pessimistic, but it appears not. Yesterday the dollar dropped as low as $1.47 to the euro, and we’re not even half way through November.

The reason for yesterday’s drop? A Chinese official suggested that China should diversify its reserves. At present China holds about $1.43tr in dollars – that would have been worth around €1.1tr in January, but is now only worth €973bn. European observers are worried, of course, that China could transfer its reserves to the euro, leading to a stronger euro, which would in turn make European products less competitive worldwide. The issue could be mitigated if China also invests in a range of Asian currencies, which could help European products in those markets, or if the Chinese currency was allowed appreciate in value.

For a practical example of the impact of changes in currency values, I’ve recently noticed an interesting case of differential pricing – this time by airlines. Air travel pricing can be opaque at the best of times, so I just came across this by chance: round-trip trans-Atlantic tickets currently cost €150 more if you’re originating in Ireland than if you’re originating in the United States.

I had been pleasantly surprised by the cheap price of air tickets (particularly after converting them into euro pricing) recently, and decided to check on prices for friends and relatives to come visit me – as they earn their incomes in euro, this low pricing would be particularly welcome for them. That’s when I realized that a ticket ORD-DUB-ORD (that is Chicago to Dublin, return) can cost as low as $482 (€400 – this is for Aer Lingus, 15-18 January, 2008), but that the same dates DUB-ORD-DUB will cost you €464. In April you can travel to Ireland from Chicago for $587 return (€400) but the lowest available rate in the opposite direction is €544.

Clearly Aer Lingus – and a cursory search indicates they’re not alone – are calculating that American customers need an inducement (compared with European customers) to travel abroad. Currency holdings of the airlines will also affect their pricing in different currencies, but it would seem that a 16-36% difference would have to be based on more than this, and customer confidence seems the likely factor, as far as I can see. This, of course, is but the thin end of the wedge, as the US slowly moves away from its position of purchaser of last resort for global goods. Any guesses on the value of the dollar next Christmas?

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