Evans On The Economy -- Steel's Victory Hard To Swallow

We are about to find out anew whether a weaker dollar really is good for America, as Treasury Secretary Michael Blumenthal memorably remarked in 1978. The 50% decline in the dollar relative to major foreign currencies in the 1970s was followed by two bouts of double-digit inflation and two severe recessions. When the dollar fell about 50% in the late 1980s, though, the U.S. economy strengthened and suffered through only one minor recession. One obvious difference was that the dollar was undervalued in the 1970s, whereas in the 1980s, it returned to equilibrium from highly overvalued levels. Why did foreign investors decide to bail out of dollar-denominated investments this time? At first glance, there appears to be no particular reason, other than the fact that the dollar was overvalued -- but that had been the case for at least the last two years. Interest rates have hardly changed in recent months, and while the stock market has been weak, it fell even faster last year, when the dollar continued to appreciate. The economy may not be doing wonderfully, but its performance is certainly better than at the same time last year, and corporate profits finally seem to have turned around. The principal factor causing a weaker dollar has been the recently imposed tariffs on imported steel. The major decline in the dollar started after George W. Bush announced tariffs of up to 30% on steel imports in early March. Suddenly, foreign investors began to realize that in spite of his Republican label and his enthusiasm for so-called fast-track legislation, Bush is a protectionist president who is willing to risk a trade war. So, investment in dollar-denominated assets looked a lot less enticing. There are always pluses and minuses to any major change in the currency. When the dollar is overvalued, a return to equilibrium is generally a move in the right direction. By stimulating exports and reducing growth in imports, it creates more manufacturing jobs. The impact of higher inflation generally does not occur until the dollar sinks below its equilibrium value. On the minus side, a weaker dollar will retard the recovery in the stock market. Also, in this particular case, the steel tariffs could set off a trade war that will undercut the increase in exports that would otherwise occur. Last year, steel imports were about $14 billion, down from $17 billion in 2000. Without any changes in tariff rates, that figure might have rebounded to the $17 billion-to-$18 billion range this year; with the new tariffs, imports may drop to the $12 billion-to-$13 billion range. I estimate that could save as many as 13,500 jobs -- although any increase in actual jobs will probably be far less, with most of the rise showing up in an increase in the length of the workweek. Even if the tariffs add 13,500 jobs, though, that must be balanced against the loss of jobs in the fabricated metals, machinery and transportation-equipment industries. Many of those companies will have to pay more for steel than their international competitors, and hence are more likely to shift operations to offshore locations. There are about 5 million jobs in those industries, so if only 1% of them shift overseas, that is a net loss of 50,000 jobs. The trade restrictions imposed by other countries as a result of the steel tariffs are likely to be quite severe. An optimistic assessment would indicate only a $5 billion drop in exports, equal to the decline in steel imports, but in fact the trade war will probably expand far beyond. When considering the renewed weakness in the stock market due to the loss of confidence by foreign investors, coupled with slower growth in exports because of foreign trade restrictions, the U.S. economy probably will not be helped by the weaker dollar. In this respect I do not expect a repeat of 1987-88. This time around, the only winner will be the steel industry. Michael K. Evans is chief economist for American Economics Group, Washington, D.C., and president of the Evans Group, an economics consulting firm in Boca Raton, Fla.