The biggest economic story of the last week has been the continuing rally in the U.S. dollar. After flirting with record lows against the euro as recently as July 15, the dollar hit a six-month high against the euro and a two-year peak against the U.K. pound sterling as growth in the world's developed economies girded to a halt. Even long-time bears such as George Soros and Jim Rogers admitted that they had covered their short positions in the greenback.
After spending the last half decade in the doghouse of currency traders, the dollar is emerging as the world's favorite currency. Why the sudden change? It turns out that the popular "decoupling theory" -- the belief that the rest of the world's economies can continue to thrive while the U.S. economy slows -- is bunk. Much to the chagrin of market Cassandras, it is other developed economies, and not the United States, that are flirting with recession.
Data released last week shows that the 13-nation eurozone economy contracted 0.2% in the second quarter. That's the first decline since before the euro's introduction in 1999, with the economies of Germany, France, and Italy all contracting. And because inflation in the eurozone is running at almost double the European Central Bank's (ECB) target rate, it's unlikely that the ECB will cut interest rates before 2009. As a result, both European economies and the euro are likely to stagnate during the foreseeable future.
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