So many bizarre things are happening in global financial markets that it’s impossible even to keep up with the critical events (today for example, more European countries guarantee deposits, 1 per cent cut in interest rates, US Fed starts buying commercial paper), so I’ll focus on one thing that has struck me. A few months ago, the Australian dollar was close to parity with the US. Since then it’s become apparent that the US financial sector is essentially insolvent, and that the US government is relying on the printing press to meet its obligations, while, by any reasonable standard of comparison, the Australian economy looks remarkably sound. So, in their infinite wisdom the financial markets have sold off the Australian dollar (as of today, it’s worth about $US0.72).
In the current environment, a big devaluation is probably beneficial for the Australian economy. It more than offsets the decline in ($US-denominated) commodity prices we’ve seen so far.
Still, on any reasonable assessment, the movement in the market exchange rate is plain crazy. At this point, the claim (essential to the efficienct markets hypothesis) that market-determined asset prices represent the best available estimate of future values, and therefore that capital markets are the best available method of allocating scarce resources for investment can only be sustained on the basis of the kind of dogmatic belief that asserts that humans and dinosaurs shared the earth 6000 years ago.