[PEN-L:1334] Passing the buck

[knowware@xxxxxxxx (Tom Walker)]

A few comments in response to Joseph Kahn's column "Globalization is
starting to work against us" (forwarded to PEN-L by Louis Proyect):

>The ugly version is of more recent vintage. It goes like this: Currency
>crises can zip from one changing economy to the next, spreading deflation
>around the world and leaving recessions in their wake. No one, not the
>United States or the International Monetary Fund, has the power, or perhaps
>the will, to do much about it.

Currency crises may "zip" around but the underlying rot can fester for
decades. The rot is the ad hoc series of accomodations made to the
international monetary system since the collapse of the Bretton Woods
agreement in 1971. The reason the U.S. or the IMF don't have the will to do
much about it is that those accomodations have permitted the U.S. to run
chronic balance of payments deficits with impunity.

>In fact, real interest rates, which take inflation into account, are at
>record highs in many countries, as governments and central banks try to
>defend their currencies against speculators. Shortly after Russia devalued
>the ruble, for example, Canada and Mexico raised rates to defend their
>currencies. High real rates slow economic growth and put fresh downward
>pressure on prices.
>
>"Russia is part of the deflation problem," Chen said. "We don't think there
>are any major forces that can put a stop to it." He suggests that the U.S.
>Federal Reserve should lower interest rates to reduce the relative appeal
>of the dollar. But he sees few signs that the Fed is prepared to do so
>unless domestic economic fundamentals take a turn for the worse. "The U.S.
>does not comprehend the risk," he said.

Chen Zhao's prescription of lowering U.S. interest rates only hints at why
real interest rates are at record highs. The U.S. Federal Reserve has been
keeping them high in the U.S. to enhance the relative appeal of the dollar.
To put it bluntly, this is how the U.S. finances its chronic balance of
payments deficits. The name of the game is "beggar my neighbour", and the
U.S. has been playing it like there's no tomorrow (perhaps because there is
no tomorrow?).

The image of the U.S. as a "safe haven" for nervous foreign investors is a
misnomer. U.S. interest rates are siphoning liquidity from the rest of the
world in a desperate effort to maintain the Potemkin village of U.S.
domestic prosperity and low inflation.

To put things ironically, the U.S. dollar is strong because the U.S. foreign
exchange fundamentals are weak. The U.S., however, is the one player in the
game to whom the rules of exchange rate adjustment do not apply. Russia runs
a big payments deficit for a few years and the rouble collapses. The U.S.
runs enormous deficits for decades and the dollar soars (on FRB wings).

If the FRB does the right thing by the global economy and lowers U.S. rates,
it will also shoot down the dollar -- the domestic consequences would be a
sharp inflationary shock and a jump in unemployment. A more likely scenario
is that U.S. officials and the IMF will continue their sanctimonious
preaching to the Russians and Japanese (soon to be joined by Latin
Americans) about the virtues of monetary "discipline". The ugly American redux.


Regards,

Tom Walker
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