Even Dollar Bears Should Read “Making Sense of the Dollar”


When I first picked up “Making Sense of the Dollar: Exposing Dangerous Myths about Trade and Foreign Exchange” by Marc Chandler, I thought it would unlock dark secrets explaining how and why the dollar has generally declined for the past ten years. I was disappointed to discover that Chandler is actually extremely bullish on the dollar despite this powerful trend. As I soaked in his contrarian optimism gushing from pages aglow with the dollar’s praises, my disappointment quickly turned into morbid curiosity. In this book, Chandler delivers an interesting historical perspective, alternative and insightful approaches to analyzing currencies and trade, and eye-opening data that even a dollar bear (such as myself) must take pause to consider. While Chandler’s strong pro-dollar position sometimes skews the book’s reviews of trend data, in the end, I learned a lot from reading this book. I did not convert into a dollar bull, but I have adopted a bit more flexibility in my thinking. I even feel better prepared to accept a bullish dollar case whenever the trend reverses back in the dollar’s favor (click here for my last technical review of the dollar index).


Chandler finished his ode to the dollar in early 2009 when the dollar basked in its status as a beacon of safety. It was of course easier then to be optimistic about the dollar given the strong rebound it experienced thanks to the financial crisis. However, throughout his book, Chandler is also resolute about his optimism toward the American economy and insists America will continue to dominate the global economy.

The following quote best summarizes Chandler’s faith:

“The quantitative and qualitative picture that emerges is one of a more educated American workforce that has been freed from the compulsion of physical toil, is enjoying more leisure time, and is living longer than ever before in larger and more comfortable residences.”

Here are Chandler’s key claims and conclusions:

  1. An ownership-based framework is more important than a balance of payments (BOP) approach in analyzing trade – the ownership-based framework shows that the U.S. is globally far stronger and more competitive than many believe.
  2. A weaker dollar policy is harmful to the American economy and undermines America’s ability to absorb the world’s excess savings. America’s role as manager of the world’s surplus of savings was particularly appreciated during the recent financial crisis. (Chandler does acknowledge the work of Charles Conant that describes how surplus savings can turn into an over-supply of goods, facilitated by the mechanization of production).
  3. American companies have developed an expansion strategy that succeeds in strong and weak dollar markets.
  4. The dollar will remain the world’s most important currency for many years into the future.

Some of Chandler’s specific arguments in support of the U.S. dollar are quite familiar:

  • The U.S. Treasury market is the most liquid and most stable financial market in the world.
  • There are no alternatives to the dollar as the world’s reserve currency.
  • The U.S. current account is overstated and savings are understated (Chandler proposes the ratio of net worth to disposable income as a better measure of savings – of course, this means that asset inflation [bubbles] will overstate savings)

Other arguments caught me by surprise:

  • Roughly half of the U.S. trade deficit consists of intrafirm trade, the movement of goods within the same company.
  • Capital flows are a much more important influence on currencies than trade. Global capital flows strongly favor the dollar.
  • Build and sell locally (hub-and-spoke model) is better than an export-oriented strategy. Thus, global economic growth is much more important than global trade, and currency devaluation is not a source of economic competitiveness.


I will now review in more detail some of Chandler’s key points and provide my own critique.

Chandler focuses on explaining how and why the U.S. economy expands and how a strong dollar supports the success of the U.S. economy. John Hay, who served as Secretary of State under presidents William McKinley and Theodore Roosevelt, provides one of Chandler’s key historical reference points. Hay wrote the “Open Door Notes” which ushered in a new era of global competition when the U.S. announced it in 1900 to change the rules of engagement in China (spheres of influence). Hay argued that a country’s variable share in the world economy should rely on the competitiveness of its businesses and not on the strength of its military. This approach set the stage for the American expansion strategy of producing and selling goods in home markets and importing the profits.

America’s direct-investments overseas are large. In 2005, U.S. foreign affiliates sold $4.2 trillion worth of goods and services (compared to exports of $1.3T in 2005 and $2.8T in sales of 9700 foreign-owned affiliates in 2006 who employed 5.3M workers in the U.S.). All this is great news for corporate profits, but Chandler does not directly explain how all this commerce helps the average American worker.

Making goods overseas eliminates export-oriented manufacturing employment. However, Chandler notes that increasing productivity is the main driver of the decline in manufacturing employment. He provides data showing that manufacturing has continued to grow even while employment has declined. He fails to note that manufacturing growth has decelerated over the past ten years. For example, after the last recession, manufacturing did not return to 2000 levels until 2004. (Click here for data from the Bureau of Economic Analysis on manufacturing gross GDP or here for a chart from Project America.)

With America focused on producing and selling overseas, the trade deficit becomes an inaccurate measure of U.S. economic competitiveness. Chandler argues that the deficit is just an accounting entity that uses out-dated methodologies from the days manufacturing was more important to the U.S. economy. U.S. firms compete beyond comparative advantage and instead build and sell locally, reducing costs and and some of the risks of changing exchange rates.

Given these circumstances, Chandler argues that an ownership-based framework best measures economic activity. The Bureau of Economic Analysis (BEA) calculates these data on an annual basis. From the BEA:

“The ownership-based framework was developed in the early 1990s in response to interest in examining international transactions in a way that would reflect the increasing importance of multinational companies in world economies and, particularly, the growing tendency of these companies to use locally established affiliates to deliver goods and services to international markets.”

The report from January, 2009 shows that U.S. exports are higher and the deficit lower than calculated with a balance of payments (BOP) approach (click here for the just released 2010 report):

“The…U.S. deficit on goods, services, and net receipts from sales by affiliates was $466.4 billion in 2007 ($2,014.0 billion minus $2,480.4 billion). This deficit was $233.9 billion less than the $700.3 billion deficit on trade in goods and services in the conventional international accounts framework. The ownership-based deficit was smaller because the receipts of income by U.S. parents from sales by their foreign affiliates exceeded the payments of income to foreign parents from sales by their U.S. affiliates.

The $466.4 billion deficit on goods, services, and net receipts from sales by affiliates in 2007 was $102.7 billion less than the deficit in 2006. This was the first decline in the deficit since 2001. The 2007 decrease resulted from a $53.0 billion decrease in the deficit on trade in goods and services and a $49.7 billion increase in the surplus of net receipts from sales by affiliates.”

Note well that the U.S. still runs a deficit even by the more favorable ownership-based framework. So, Chandler continues by trying to demonstrate that the current account deficit is not correlated with the dollar. He juxtaposes a chart from the BEA on “U.S. International Transactions: First Quarter 2008 Current Account” with the trade-weight dollar index from the St. Louis Federal Reserve. The correlation does not exist over the entire time series (1973-2008); however, there is a notable and CLEAR correlation starting around 2002 as the dollar begins its steady descent along with the increase in the current account deficit. Chandler ignores this most recent trend and leaves the reader to speculate whether this change is a random outcome of data volatility, an aberration, or whether it represents some fundamental shift in economic relationships.

Regardless, Chandler also argues that capital flows matter more to the value of the dollar than trade flows. Here, Chandler lacks causal data, and instead draws examples of the relative size of capital and foreign exchange flows to trade flows to argue that “the value of the dollar is a function of all of the reasons why people want to buy and sell the dollar, whether for trade, business expansion, or investment.”

Thus, according the Chandler, there are plenty of reasons to believe in the strength of the dollar since it is the world’s reserve currency. Oddly enough, Chandler’s reference to Triffin’s dilemma seems to contradict this belief. Robert Triffin argued that a reserve currency inevitably declines and collapses because the demand for the currency encourages more supply. Increasing supply leads to larger current account deficits and then lower confidence in the reserve currency. Chandler used this theory to explain why no other nation wants to designate its currency as a reserve currency (he provided an example from Iceland’s dealings with the European Central Bank). Chandler does not explain how or why the dollar is immune to this devaluation trap.

After the financial crisis abated last year, the dollar resumed the extended decline that began in 2001/2002. Bloomberg even reported on September 30, 2009 that the International Monetary Fund’s (IMF’s) Currency Composition of Official Foreign Exchange Reserves (COFER) data showed that the dollar’s share of world reserves dropped to a ten-year low to 62.8% whereas the euro rose to a record 27.5%. (The recent decline in the euro has no doubt shifted these numbers)! Chandler uses the COFER data to claim the U.S. dollar became a larger part of global reserves from 1995-2007. He conveniently ignores that while the 2007 percentage of 64% is marginally higher than 1995’s level of 59%, this share PEAKED in 2001 at 72%. I believe it is more than coincidence that this share peaked right as the dollar began its decline, but, once again, the reader is left to speculate on the structural explanations behind the data.

Similarly, Chandler overlooks the recent correlation between the dollar and commodity prices and instead chooses to aggregate a longer time series to conclude there is no relationship. He compares oil prices to the trade-weighted dollar index to prove his point. This same chart shows a direct relationship ever since the dollar’s peak. The blanket claim that exchange rates cannot help predict exports, the trade balance, or stock prices ignores what many of us have at least learned in the past several years: at very important times, a direct and strong correlation can manifest itself in powerful ways. It would be more useful to explore why and how these correlations appear rather than to dismiss them by combining data across very long time periods.

Finally, there were a few sections of the book that were interesting but did not directly promote the U.S. dollar. Here is a summary of some of the more intriguing points:

  1. There are multiple types of capitalism. No single type is absolutely better than the others…
    • Liberal market capitalism: innovation and entrepreneurship, government mainly enforces rules of competition and provides social services)
    • Corporate market capitalism: small group of companies manage entire economy
    • Coordinated market capitalism: collective achievement and consensus to achieve economic efficiency and social justice
  2. Government and capitalism are partners; capitalism and socialism are not polar opposites.
    • In most modern capitalist countries, the majority of the economy is not profit-maximizing. For example, the U.S. government consumed 1/3 of all the country’s production (before 2000?).
    • The government is the lender and consumer of last resort and no one has provided a viable alternative.

Chandler also discusses the mechanics of the foreign exchange markets (for example, three trading strategies: carry trade, momentum strategy, mean reversion).

Full disclosure: book provided free by Seeking Alpha in exchange for writing a review

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