Global US Dollar Recession

According to the International Monetary Fund the global economy is set to post the deepest global US dollar recession since at least the 1960s. The Financial Times reports the story.

Dragged down by weak performances in some large emerging markets and in Europe, the global economy is this year set to post its deepest US dollar recession since records began, according to an analysis of data released by the International Monetary Fund on Wednesday.

A detailed IMF country-by-country breakdown of nominal GDP forecasts – expressed in US dollar terms – shows a projected fall in global GDP to $73.5tn in 2015, down $3.8tn from last year. The scale of the contraction eclipses the $3.3tn fall in 2009 and ranks as the largest annual shrinkage in world growth – measured in US dollars – since records began in the 1960s.

The expected economic contraction will be caused by the strength of the US dollar and revised GDP forecasts for emerging economies and Europe. Measured in US dollars the global economy will fall $3.8 trillion or 4.9 percent. However, when the same calculations are done considering purchasing power parity there is a 3.1 percent global economic expansion this year! In other words a global US dollar recession is not necessary a recession for everyone. How does this work?

Purchasing Power Parity

The basis of purchasing power parity is how much one can purchase with the local currency regardless of its strength versus other currencies such as the USD. According to Investopedia purchasing power parity is as follows:

An economic theory that estimates the amount of adjustment needed on the exchange rate between countries in order for the exchange to be equivalent to each currency’s purchasing power.

The relative version of PPP is calculated as:

S = P1/P2Where:

“S” represents exchange rate of currency 1 to currency 2

“P1″ represents the cost of good “x” in currency 1

“P2″ represents the cost of good “x” in currency 2

For example the cost of ground beef paid for with US dollars in the USA is $4 a pound and the cost of ground beef in Colombia is 8,700 Colombian pesos. The peso trades 2,900 to the dollar so the cost, in dollars, for ground beef in Colombia is $3 a pound. Expand the ground beef calculation to all expenses for a household and you see that due to purchasing power parity a person can make less money in a given economy and still live better than in a more expensive economy even if the currency is stronger. It turns out that a US dollar recession may not be bad for everyone. But who gets hurt?

So Who Is Hurt?

US companies exporting US products are being hurt by the strong dollar. Business Insider discusses how American companies are having problems.

While a strong dollar might be good for national pride, it’s been a major headache for multinational American companies. The most cited reason for subpar second quarter earnings, in fact, is the greenback. Financial number-cruncher firm FactSet noted in a recent report that the impact of the strong dollar was a recurring theme in many earnings reports, from Nike to Costco to AutoZone.

John Deere has laid people off and even Tiffany’s is making less money as fewer rich people visit the USA to shop. The list goes on with Johnson & Johnson, Proctor & Gamble, US Steel, Ford, etc.

Trading Currencies

While the dollar may be strong it will not stay that way forever if US exports suffer. Traders will be wise to adjust their positions for an eventual readjustment of the USD to a more sustainable level.