Federal Reserve

Chairman Alan Greenspan and his fellow central bankers may bear some responsibility for the dollar's decline -- but don't expect them to do much to end the trend. After all, the Fed didn't cut rates to such historic lows because the dollar was overvalued. And now that the dollar is on the wane, they've got bigger problems to deal with.

In theory, the historically low short-term interest rates the Fed kept in place over the past few years should have prompted global investors to move money to countries where they can earn a better return. So with the Fed now raising rates and the economy still doing well, shouldn't the dollar rally as those investors are lured back?

It's not working out that way this time because, to borrow from the classic Terry Gilliam movie

Brazil

, there's been a little complication with the dollar's complications.

For a while at least, the "complication" of Asian central banks buying Treasuries limited the dollar's decline. Instead of converting trade surpluses back into local currencies by selling dollars, they kept their export bounty and amassed huge dollar reserves. Now that complication has developed a complication of its own as investors realized that central bank demand was hardly unlimited. Russia and China recently have given indications that they might be tiring of owning so many dollars.

"Interest rates aren't the only thing that matters," explained T. Rowe Price chief economist Alan Levenson. "It's the current account deficit and the fiscal deficit that have been exerting downward pressure."

For the past few years, American consumers and the federal government have been running up huge debts that are being financed in large part by Asian central banks. China and Japan collectively own $895 billion of Treasuries as of Sept. 30. That financing imbalance, along with increasing purchases of imported goods such as oil, have driven the U.S. current account balance with the rest of the world to record levels -- 6% of GDP last quarter and counting.

As every newspaper reader knows by now, the dollar hit an all-time low against the euro of $1.333 last week, its seventh record low set this month. It finished slightly better on Monday at $1.3278. It also climbed off a near five-year low against the yen of 102.6 last week to 102.86 on Monday.

Monday's action was much more of a short-duration uptick amid a fierce bear market than an all-out reversal of trend. Analysts and traders generally expect a resumption of last week's dollar selloff.

At Evergreen Investments, Chief Investment Officer Chris Conkey is worried that the selling could get out of control.

"What do you say about the dollar's decline? It's not a bad thing until it is," he asks. "Now it looks like it's becoming significant and a focus of investors and it is" becoming a bad thing.

Evergreen, with about $250 billion under management, is running its international portfolios that hold stocks denominated in other currencies without any hedging back into dollars. In domestic large-cap funds, Evergreen is looking for multinational export-oriented firms that are well placed to benefit from the dollar's slide.

"A declining currency in and of itself is not a bad thing when inflation is relatively low and manufacturing jobs are going away," Conkey says. "But it's like alcohol -- a little bit may be good, but how do you stop?"

A falling dollar doesn't have to doom the stock market, although that was part of the lead-in to the 1987 crash. After all, the dollar has been falling for more than two years, and stocks are far in the green during that period.

At the very least, a weaker dollar favors exporters such as technology and machinery manufacturers, respective examples being

Qualcomm

(QCOM) - Get Report

and

Deere

(DE) - Get Report

. Raw materials producers such as

Phelps Dodge

(PD) - Get Report

also get a boost as dollar-denominated commodities rise in price to offset the decline in the currency.

Conversely, importers such as

Wal-Mart

(WMT) - Get Report

and companies dependent on lower interest rates such as

Citigroup

(C) - Get Report

and

Pulte Homes

(PHM) - Get Report

, can get hurt.

Interpreting Greenspan

Greenspan certainly doesn't expect the sky to fall, as he said in his Nov. 19 speech on the dollar.

"Market forces should over time restore, without crises, a sustainable U.S. balance of payments," the maestro said after conceding that a further decline in the dollar was

all but inevitable.

Don't expect the Fed to start raising rates like mad to save the dollar now.

"The interest rate that the Fed issues is principally oriented towards domestic inflation and domestic growth," noted Komal Sri-Kumar, chief global strategist at TCW. "I don't think the dollar has ever been the principal target of the Fed's policies."

Further complicating the task for dollar saviors will be actions taken in Europe and Asia, and beyond the control of Greenspan.

Nearly all analysts agree that the Chinese, by keeping the value of their currency at a nearly fixed ratio to the dollar, are exacerbating trade imbalances. Some analysts had expected word out of China over the weekend indicating a near-term change in currency policy. But despite frequent pleas from the Bush administration for a revaluation, no one gave any such signal at the country's Central Economic Work Conference.

"It was instead made quite clear, once again, that the Chinese government will proceed at its own pace in this matter," wrote currency analyst Simon Derrick at Bank of New York.

Meanwhile, short-term rates may be about to head higher in Europe, despite sluggish growth in the eurozone.

A tightening by the European Central Bank would dampen the dollar-boosting impact of any rate increases by the Fed because U.S. rates wouldn't be any higher on a relative basis; and, in theory, they could even be lower if the Europeans move more aggressively. The ECB holds its monthly meeting on Thursday and could then give a signal about which way it is leaning.

Still, the dollar remains locked in a downward cycle. Even if the dollar stages a rally on news of the ECB meeting or Friday's U.S. employment data, expect the declining trend to resume sooner rather than later.

In keeping with TSC's editorial policy, Pressman doesn't own or short individual stocks. He also doesn't invest in hedge funds or other private investment partnerships. He invites you to send

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