I really appreciated Menzie Chinn's presentation (and fredw's comments) at econbrowser on the theories behind future dollar predictions; it's a fascinating subject, very relevant to what will happen to the US, and I picked up a couple of concepts. Thanks Menzie.
First of all, the experts are predicting a continued rise of the USD/ED for the next 3 months, then it would seem the USD/ED begins its decline. In my opinion, not too soon... there's a lot of US jobs at stake.
But, as I mentioned, I learned a couple of ways to look into the future of exchange rates that I want to share.
The easiest to understand, PPP, or Purchasing Power Parity; posits that if you take two identical baskets of items (and services) in two different countries, they should have the same value in a common currency.
Let me explain, let's say you go out and buy the same basket of items in NY and Shanghai; if you bring back the basket from Shanghai to NY, which includes transportation and other costs, both baskets should cost you the same... And of course, they don't, so you have an upward pressure on the Yuan/USD rate of exchange, - consider that the PPP affects this relation either by putting pressure on the Yuan to rise or the USD to fall...
Take a look at this interesting chart (you'll find the updated chart from The Sauder School of Business, UBC here ), which references USD versus various other currencies; note the downward drag on nordic countries currencies, while Mexico and others have upwards lift due to the PPP effect.
Next, the UIP, or the Uncovered Interest Parity, tells us that it only makes sense to invest in either country if the returns are the same. If the returns are different, then there will be a pressure to compensate this difference through the exchange rates between these countries.
I would have one comment here, that we need to consider the different risks that investing in different countries imply; of course, we would expect a better return on our investments in Argentina than the US, for instance.
Finally, the effects of these pressures take over 5 years, so they are very slow to materialize in the exchange rates.