17 March 2008: Over the past few months, the U.S. dollar has seen a sharp fall in its value against other major world currencies. Every week there seems to be headlines about the new depths that the greenback is plumbing. Last week saw the dollar depreciate against the Japanese yen, dropping below the ¥100 mark for the first time in twelve years. The euro also set new records against the dollar, which has even reached new lows against the Chinese yuan--a currency that Washington has routinely criticized for its artificially low valuation.

The freefall that the dollar is experiencing is due in part to the weakening U.S. economy with inflation, slowing growth, and financial instability all present. In an effort to simulate growth and prop up the flagging economy, the U.S. Federal Reserve has slashed interest rates and injected more dollars into the marketplace causing investors to look elsewhere for investments with higher rates of return.

These investors have sought refuge in commodities, and oil has generally grabbed the headlines. A barrel of oil touched $111 with gasoline prices in the U.S. now averaging $3.22 a gallon--up $0.67 from a year ago, according to the Department of Energy. There is even talk of oil costing $175 a barrel in the not-to-distant future, according to Goldman Sachs--which would only further undermine confidence in the U.S. economy. Gold, a traditional safe haven during times of uncertainty, traded at over $1,000 an ounce for the first time, in part because of the depreciating dollar.

The Financial Times summarized the situation thusly: “Analysts said the market stress was being driven by the sharp decline in the dollar and forced sales by hedge funds under pressure from their bank lenders to reduce their portfolios. ‘The broad story is one of dollar weakness,’ said Alan Ruskin, a strategist at RBS Greenwich Capital.”

OPEC president Chakib Khelil rejected concerns about supplies and high prices in the oil market, stating that the price increase “is linked not to a lack of production but to the devaluation of the dollar which has given speculators the opportunity to invest in oil.”

While it is true that the dollar and the weakening U.S. economy is wreaking havoc in the global economy, the idea that the dollar’s falling value is the main reason for these high prices is myopic and ignores the tremendous growth that is being experienced in emerging markets--and the resultant boom in demand for raw materials and goods.

Iron ore, for one, has reached record prices this year on strong growth in emerging markets, like China and India. Copper prices are also high for the same reason, and “supply issues” have pushed up aluminum prices as well. An International Energy Agency report from 2007 stated that China and India accounted for 70% of the energy demand over the previous two years, and that the two Asian giants’ crude oil imports are expected to quadruple by 2030.

As the Economist cogently explains:

“China's burgeoning consumption has helped push the price of all manner of fuels, metals and grains to new peaks over the past year… China, with about a fifth of the world's population, now consumes half of its cement, a third of its steel and over a quarter of its aluminum. Its imports of many natural resources are growing even faster than its bounding economy. Shipments of iron ore, for example, have risen by an average of 27% a year for the past four years.”

The fact is that the number of consumers in the world is growing faster than the number of goods and this is causing prices to go up. (Indeed, it is the very definition of inflation, which is slowly creeping into the global economy.) This fact is well illustrated by the costs in other goods, including fine art. As the world’s population gets wealthier, new millionaires and billionaires in former third-world countries are looking to do as the wealthy do and are buying up paintings and sculptures from auction houses around the world.

Another example is the cost of food, which has spiraled upwards, in no small part because of the drive towards biofuels. In China, consumer prices have risen nearly 8% since last year, largely because of shortages of vegetable and pig supplies. American consumers are feeling the pinch when they reach the supermarket check-out, and now the United Nations World Food Program needs an extra $500 million to meet its obligations because of rocketing wheat and corn prices.

With the ballooning costs across such a wide swath of commodities and goods, it is difficult to accept that the falling value in the dollar is the primary catalyst--not the least because this trend began before the greenback’s current troubles. Consequently, there is a need to address the underlying problems of global supply, demand, and consumption--as well as the dollar issue.

Is concern about the supply of goods and materials justified? How does the race for commodities like oil, metals, and grains affect diplomacy and international relations? And what, if anything, can diplomats do to ameliorate the shortages that are inevitably hitting on the world’s poorest and neediest citizens?

Send us your thoughts.