The Weak Dollar & the Deficit: A Recipe for Disaster?

The New York Times recently published an interesting editorial regarding the weak American dollar. Interest rates are becoming particularly difficult to forecast of late, and the erratic market activity isn't helping. Governmental spending has led to a massive deficit in recent years. The obvious to way to fix the problem is through boosting savings, which would of course require the current administration to end certain tax cuts and reign in spending. So, instead, they've let the dollar slide.

On the bright side, a weaker dollar results in more affordable American imports. But, it's critical for that weaker dollar to be teamed with a positive savings rate. Unfortunately, that's not the case. As long as the United States is forced to look abroad to fund its debts, there's the risk that they'll require a higher interest rate thanks to the weaker dollar and the added risk that comes with it. A higher interest rate could be a crushing blow to the domestic economy. It would cripple business and consumer spending.

So, in a nutshell, as long as our deficit is significant, there's the risk creditors will require more interest to continue to fund our spending. Consequently, the Federal Reserve won't have much say when it comes to interest rates. That's just how it goes when you spend more than you have--you lose the perks that come with responsible spending. Clearly, it's vital not to roll the dice like this, so hopefully we'll see a shift in policy in the near future.