Can a reserve currency be protected from the whims of people in a democracy?

There are all kinds of views about what has brought the world crisis in 2008. Several conversations seem to point the source either to the FED, or to the so called "savings glut" from oil exporting or manufacturing countries. A good place to start would be with the view that the FED lowered its rates below some natural interest rate. (Nota Bene: This account beats revisionist Greenspan's dead horse).

I think the above views are only partial, and not even when held together could explain 2008. For one, the low US rates must have been met indeed by excess money supply or the so called "savings glut." It always takes two to tango. On the other hand, this is all Popperian science at best. It goes in small small steps and sees not the bigger picture. For example, Beckworth (link) doesn't take into account the fact that the increased productivity he contrasts to the decreasing FED rates was due in great part to outsourcing&offshoring.

Another view is that the FED is responsible for the well doing of the international monetary system. This is an interesting assumption to which I will return. One of the economists operating with this assumption is John B. Taylor (link to paper), who also shows that the FED, by lowering the interest rates, should be held accountable for what happened in 2008. In this case, on the grounds of incomplete models and such, the question becomes: How could the FED be held responsible for the Chinese manipulating their currency?

It's time now I posit that China's entering WTO has been the catalyst of our capitalism's demise.

To counter the point that FED alone could not have caused the events in 2008, one could argue that we had similar situations in the past (war: Vietnam + creditors: Germany/Japan). My answer would be yes, but check also the pains our capitalism had at the time in addition to saying that China's effect comes at a different order of magnitude. Not to mention that both Germany and Japan were US clients for their national security. So, while what China is doing is not entirely different in principle from other partners we've had, it is the size that matters and the stage of decay of our own capitalism (institutions, players, etc.).

As an observation, what's compelling China to keep buying the US paper? I say that in part it's the same reason that had made them do so until 2008. At this time, the other reason may be the fact that if they stop buying they may risk the value of whatever they have bought so far and then some more--it would be so Chinese-unlike.

Let's turn now to Brad DeLong to see the emerging consensus view among economists about the causes for the 2008 crisis:
  • the Federal Reserve and the Treasury decided to nationalize AIG rather than to support AIG's counterparties last fall, allowing financiers to pretend that their strategies were fundamentally sound rather than things that would have shut down their firms had the Feds not paid AIG's bills. (Nota Bene: This is probably a mistake, not a cause)
  • the Federal Reserve and the Treasury decided to let Lehman Brothers go into an uncontrolled bankruptcy last fall in order to try to teach financiers that having an ill-capitalized counterparty was not riskless and that people should not expect the government to come to their rescue always. (Nota Bene: I agree with this and blogged about it)
  • the long-ago decision was made to eschew principles-based regulation and allow the shadow banking sector to grow unregulated with respect to its leverage and its compensation schemes in the belief that government regulation of finance should be minimal and that the government's guarantee of the commercial banking system was enough to keep us out of messes like the one we are currently in. (Nota Bene: This seems to be how economists account for the complexity of the causes, while operating with sketch models that only make good Popperian science).
These are pertinent views, yet incomplete--read, easy to model by economists practicing Popperian science.

At this time, I would add to the above reasons the following:
  • We should pay more attention to the stage of capitalism in the US/west. I've done so, here as well.
  • The US failed to adjust its post WWII trade policies to account for China's entry in WTO. This has led to an implicit contract of sorts. The US party in the contract had an increase in productivity, otherwise hard to come by at our stage in capitalism, and maintained purchasing power of displaced workforce at home. The Chinese bought our dollars, manipulated their currency, gave a better tomorrow to hundreds of millions of their own and, most importantly, they've got a massive know-how transfer that money otherwise could not buy. In effect, this fueled indeed the Chinese share of the "savings glut" symptom.
  • The other point I'd like to make, and DeLong's 3rd cause would come close, is about looking for another cause/mechanism of the "savings glut." It must indeed have been everywhere people's looking for YIELD--in itself a behavior due to low interest rates and late stage capitalism. Yield that had been conveniently MANUFACTURED by the collusion between our politicos and bankers.
Now it's time I returned to John B. Taylor's assumption that the US FED be responsible for the stability of the international monetary system. This view does not seem all unreasonable since the US dollar enjoys the status of reserve currency. In other words, we owe the world that much. That might have been so in the past, notwithstanding the lousy job we did of it. In this day and age, I would argue, if we want globalization to continue its course, especially among democracies, one has to return to Keynes and his recommendation at Bretton Woods for a global currency (Bancor); China seems to favor such thing, and this may be our opportunity to keep the game straight after the demise of the dollar from its position as reserve currency. Indeed, if a democracy controls the reserve currency, what guarantee can it be that the respective currency will be protected from the whims of the people in that democracy?

On a very personal level, I think we are still far from recovery, for I don't think recovery can come in sight before we've heard the truth being spoken in public. Yes, truth is socially constructed, but unless we come together (read, pressed by reality/fused into nationhood) to first see the problem with the same eyes, how can we figure out a solution? If you like, outside observers of all times have always wagered this bet against America--on our inability to come out of a paper bag of our own making. Will we prove them wrong once again? Coming out of the two wars NOW would be a start...

1 comment:

fCh said...

I was asked what would be the chances of anything like Bancor to happen.

To which I say, it all depends on how many & which countries we are talking about. Realistically speaking, Bancor has all the chances to go the way of, say, Esperanto.

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