Weak Dollar - Why You Should Care

Last week, the dollar fell to new lows. Looking back at the past 30 years, the dollar seem to be moving in pattern with its historical cycles. The chart below shows the Trade-Weighted US Dollar Index on a 12 month moving average. While on the downtrend, the dollar is still higher than it was in the mid 90's and the late 70's. Those periods followed with significant rises in the dollar. So should we be concerned?

080310 US Dollar Index Cycle.jpg

One immediate impact of a weaker dollar, is its affect on US purchasing power. As the dollar falls, it costs more to import goods. The next chart shows the almost perfectly inverse relationship between the dollar and import prices. The blue line represents the dollar index and the red represents import prices. In the last quarter, spending on imports was roughly 17% of GDP. Spending more on imports weighs on GDP growth.

080310 US Dollar vs Import Prices.jpg

Additionally, there is almost a perfect correlation between import prices and inflation. As import prices continue to rise, so does Core CPI (Core CPI excludes volatile food and energy prices). Unless we change our consumption patterns, a weaker dollar impacts our wallets as well as our patriotic spirit. The good news is, if history is an indicator, the dollar will rise again.

080310 CPI vs Import Prices.jpg