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Forecast: Dollar Will Drop and Can Lose Its Role in World Economy

January 3, 2011 at 16:58 by Vladimir Vyun

US DollarThe US dollar was weakening in 2010 amid the concerns about the US economy and as the quantitative easing damped the appeal of the currency. On the other hand, the dollar managed to rise somewhat recently. What the future holds for the US currency this year?

Performance of the dollar is tied with the health of the US economy. The economy looked rather weak for the most part of the year, but now slowly recovers. Is the recovery sustainable? There are positive factors for the US economy. One of them is the extending of the Bush-era tax cuts, which may boost businesses. Another positive factor is the global recovery, which helps to boost the US output.

But, as the Morgan Stanley pointed out, there are also negative factors for the US economy. The weak housing market in the US, anticipated spending cuts, possible negative impact on the global growth of the European debt crisis and China’s tightening – all these may have the negative influence on the economic growth of the US. Many economists believe that the Federal Reserve’s quantitative easing would have disastrous effect on the economy of the United States. In general, the outlook for the US economy remains quite uncertain.

Another way to think about the future of the dollar is to look at its possible performance against different currencies as the strength of the dollar is actually measured relatively to other currencies, and we can expect various currencies to behave differently. The euro comes to mind when we think about weaker-than-dollar currency. It looks like the sovereign-debt problems wouldn’t go away in the near future. On the contrary, more and more countries become plagued by the crisis. But the decline of the euro versus the dollar isn’t certain as nobody can guaranty that the US economy would be in better shape than the European one. Another currency, which may fall against the greenback, is the Japanese yen, but only in case of an intervention from Japan’s policy makers.

The list of the currencies that looks stronger than the greenback is much more extensive. The commodity and the growth-related currencies, including the Australian dollar, the Canadian dollar and the Russian ruble, are predicted to thrive amid the anticipated rally of the related assets. In case the economic conditions would turn for the worse and the sentiment would shift to risk aversion, the Swiss franc looks very attractive as the safe currency.

And we should not forget the Chinese yuan as some experts go as far as forecasting this currency to take the role of the dollar as the world’s reserve currency. The decision of China and Russia to use their own currencies in trades between the two countries, abandoning the dollar as the currency of an exchange, makes the forecast not as unbelievable as one may think. The future of the dollar looks even grimmer after France took the chairmanship of the Group of Twenty as the French President Nicolas Sarkozy is known for his criticism of the dollar’s role in the world economy, blaming the currency for the global crisis and the trade imbalances.

What a way to profit from the expected decline of the dollar? The Money Morning suggests to go long on the Chinese yuan, the Swiss franc and the Australian dollar either directly or using the ETFs. You should remember that the dollar has potential to rise in the first quarter of 2011, but that should be considered an opportunity to sell dollars you have, not to buy them.

If you have any questions, comments or opinions regarding the US Dollar, feel free to post them using the commentary form below.

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