Expert View: The world can still prosper as the dollar slides

There have been two main features in financial markets over the past month. The first was a bounce in the price of crude oil, but perhaps more worrying was the renewed slump in the value of the dollar - which has proved to be something of a drag on equity markets.

Analysts have been predicting the dollar's demise for some time. This view was based on the stubbornly high twin US deficits of trade and budget, the prospect of the American economy slowing down and the belief that foreigners would start withdrawing funds from American assets. What has in fact happened is that various factors have conspired to send the dollar plummeting again.

It all started the day before the Thanksgiving holiday and has led to a 5 per cent slump against the pound and not much less against the euro in the past three weeks. While it is fair to say that traders outside the US were giving the greenback a right spanking while their American counterparts were tucking into turkey and apple pie, meaning that the market was thin in terms of volume, the pressure has got worse since the holiday.

Among the reasons for this sudden slide is the state of the UK economy, which appears to be on a sound footing; the eurozone is also showing good growth, as evidenced by the German gauge of business sentiment (known as the IFO index), which showed a strong reading when it was released on Thanksgiving Day. Meanwhile much of the recent US economic data has been poor. Witness November manufacturing numbers that showed the sector shrinking for the first time since April 2003, due to a slowdown in the housing and auto markets. Construction spending slumped faster than at any time in more than five years in October, led by the residential market downturn.

Obviously what all this means is that interest rates in the US are likely to decline early in the new year, while rates in the eurozone will almost certainly rise this week and are likely to remain at least firm here, too, for a while yet. Even Japan's next move in rates will be upwards, taking away some of the attraction of the so-called carry trade (borrowing in low-rate countries such as Japan to finance purchases in higher-yielding countries such as the US). Add to the above China's recent intimations about diversifying some of its foreign currency reserves away from the greenback, and it's not hard to understand recent weakness.

So what does the view that the dollar's slide is expected to continue beyond its current 14-year low against sterling (and 20-month low against the euro) mean for stocks? Well, UK companies that generate much of their revenues out of the US will be under pressure. But we should take into account that dollar costs decline as well as dollar profits, mitigating some of the effect. Meanwhile, oil majors, who report in dollars, have been held in check despite the renewed spike in the price of crude. And companies affected by the weakening dollar have trading desks whose task is to hedge against foreign currency exposure, thereby limiting the negative effects.

We should also bear in mind that the slump of the past few weeks is tiny when put in the context of the dollar's 45 per cent loss in value against the pound over the past five years, and that strong UK corporate profit growth has continued even for US-focused companies.

If the American economy does slow substantially, and interest rates drop, causing a further slide in the dollar, this should eventually lead to an export-led recovery, which would help bring down the trade deficit.

On the 10 occasions since 1980 that sterling has appreciated by more than 5 per cent against the dollar in a year, both the stock market and UK corporate earnings rose by over 11 per cent.

Taking all of this into account, we should be cautious in terms of stock market upside for the near future. But globalisation means that the effects of any one country's currency gyrations or economic ups and downs should be limited in the longer term. Even if that country is America.

Rob Holgate is chief executive at stockbrokers Wills & Co

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