Many investors are confused, and the official communication only fanned the confusion. Before turning to next week’s key events and data, let’s first spend some time, working through some of the confusion. 

There was no change in policy last week. The US did not suddenly become protectionist. It did put tariffs on solar panels and washing machines. At the end of last week, unexpectedly the US International Trade Commission ruled against Boeing’s claims against Canada’s Bombardier. All US presidents in the modern era have fought against what it argues are other countries taking unfair trade advantage, and have levied tariffs on some products, or like the great free-trade advocate, Ronald Reagan used “voluntary export restrictions” and “orderly market agreements” to protect the American producers. Note too that the US wins most of the cases it brings to the WTO.  

The tarriffs on solar panels and washing machines were narrowly based. They will be challenged at the WTO, where its largest trading partner, Canada has also challenged the longstanding practice of the US. There will likely be additional measures announced over the coming few months on steel, aluminum, and intellectual property. The best course for US trading partners is not to enter into a tit-for-tat trade war, but to use the international conflict resolution mechanisms that the US helped create in the first place. 

The US did not abandon the “strong dollar policy” or begin a currency war.  Not only did Mnuchin clarify his comments, but President Trump gave as near a full-throated endorsement of the strong dollar policy as imaginable. While Mnuchin’s remarks fueled criticism from other G7 officials, they did not retaliate by trying to talk down their own currencies. The much talked about “currency war” has not begun. 

It seems rather obtuse more than two decades after Rubin first enunciated the strong dollar policy that some economists still try to link the policy to a certain exchange rate. These economists go on then to debate which interest groups, industries, and social classes are helped by a stronger exchange rate and which are hurt. This reflects a profound and dangerous misunderstanding.

The strong dollar policy was not about exchange rates, as paradoxically as that may sound. It was about the de-weaponization of the foreign exchange market. Recall that prior to 1995, the foreign exchange market was indeed an arena of rivalry between leading capitalist countries. After the collapse of Bretton Woods in 1971, there was a reluctance to simply let the market determine exchange rates. The 1985-1987 period was the heyday of G7 coordination in the foreign exchange market. And, even as late as 1995, US policymakers from time-to-time, would threaten to depreciate the dollar. 

Rubin represented a break from this tradition. The strong dollar policy was the beginning of the de-weaponization of the foreign exchange market. In that little phrase, the US signaled it would no longer use the dollar to elicit policy concessions or reduce its debt burden. Mnuchin did not suggest otherwise. Now the G7 and the G20 have endorsed this principle, which briefly stated is that foreign exchange rates ought to be set by the market.