U.S. budget deficit up, dollar down? Well, not always

Note: It's not as simple as that. Yes, it's true, a rising budget deficit can drive a currency lower. But there many other factors that can counter-act it.

Case in point: the dollar is supposed to weaken against the British pound for the aforementioned higher-deficit reason. But there are other factors involved, namely the economy in Her Majesty's Kingdom.

The pound sunk almost 2 cents Wednesday – an enormous move in the currency market -- to $1.6539 -- after Bank of England Governor Mervyn King said a weaker pound should lead to a recovery in the United Kingdom's economy, Bloomberg News reported Wednesday.

The currency markets were surprised by King's statement, and they interpreted it as a sign central bank officials in the U.K. will maintain an accommodationist monetary policy to further support the young economic recovery in England. Others read into the statement concern about U.K. GDP growth. Inflation is low and, at this juncture, is not a threat. That was more than enough to cause the beleaguered dollar to rally against the pound, despite those huge U.S. budget deficits.

Monetary Analysis: The dollar's value is not set on an island: it's determined not only by U.S. factors, but by international variables, as well. A large budget deficit will weaken the dollar, but if the U.K. economy is weak, that can negate that decline, and so can comparable economic weakness in Japan etc. concerning the dollar vs. the yen, which underscores the danger of listening to commentators who engage in superficial analysis.