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Federal Reserve and the Dollar

March 20, 1985

In their article on the dollar (Editorial Pages, March 6) James K. Galbraith and Henry J. Reuss complain that the dollar is overvalued and that the Federal Reserve Board ought to do something about it.

I agree that the rise in the dollar has caused great hardship to U.S. exports and import-competing industries. But it does not follow that the dollar is overvalued.

Since no one knows what the dollar should be worth, there is no meaning to the assertion that it is overvalued. The value of the dollar is quite simply its rate of exchange with other currencies as determined by supply and demand in the foreign exchange markets. Given the exchange rates, its purchasing power is determined by the prices of goods sold in the United States and in other countries.

Galbraith and Reuss show confusion in their suggestion on how the dollar might be reduced in value. They blame the Federal Reserve Board for failing to supply sufficient dollars to meet world demand for dollars. But the world is demanding dollar-denominated assets, not dollars as such. Foreigners wishing to buy U.S. stocks or bonds must first buy dollars with their own money--an act that tends to raise the dollar price of foreign currencies. The foreigners then convert the dollars into U.S. securities. The dollars end up in the bank accounts of U.S. residents and others who have sold the securities, not because of a previously unfulfilled demand for them.

As the Federal Reserve Board and other central banks have relearned, massive selling of dollars has only a temporary effect on exchange rates. People who buy the dollars convert them into U.S. securities--an act that may temporarily reduce U.S. interest rates a bit, but which will have little effect on the dollar-foreign currency exchange rate.

The only way the Federal Reserve Board can permanently lower the dollar is by massive and continuous injections of dollars into domestic or foreign exchange markets. The inflationary implications of such a policy would so badly frighten Americans and foreigners that they might dump their U.S. securities and send their dollars abroad. Needless to say, this would cause a sharp rise in U.S. interest rates. This is not the way to reverse the rise of the dollar.

BARRY N. SIEGEL

Eugene, Ore.

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