Earlier this month, the world leaders met in Seoul to discuss the currency tug of war between Washington and Beijing and left without agreeing how to tackle an issue that is threatening to undermine the frail global economy. The best they could agree to is to monitor developments to ensure no country lowers the value of its currency to artificially boost exports. The US had been hoping there would have been agreement as how to cap excessive trade surpluses and deficits.
Soon after, addressing the Asia Pacific Economic Cooperation summit President Barack Obama warned big surplus economies to end their reliance on exports to drive their economic growth. The US may no longer dread the might of the Soviet bear, these days it is haunted by the appeal of the Chinese panda. The fear of nuclear warheads and the Cold War has been replaced by economic woes and a “currency war” as the US continues to defend as best as it can the hegemonic position it carved for itself in the post-World War II period. Essentially, the US acts as banker to the world.
The foundations of the international monetary system were laid in 1944 at Bretton Woods. Initially, a fixed exchange rate system evolved around America’s promise to exchange dollars for gold at the rate of $35 per ounce. Eventually, it became evident that the US did not have enough gold to keep its promise. In 1971, Richard Nixon unilaterally suspended the convertibility of the dollar into gold. That year, John Connelly, then US Treasury Secretary, stated “the dollar is our currency, but your problem”.
From then onwards there emerged a floating exchange rate system which allows countries to intervene in currency markets to influence the value of their currency. Countries no longer need to officially devalue their currencies. Countries having significant foreign reserves, like Japan and South Korea, simply buy competing currencies so as to push down the price of their own currency. China manages the value of its currency through tight controls on the import of capital rather than intervention on currency markets.
Perhaps the biggest cost of the recent financial meltdown to America is the loss of its moral high ground. The collapse of the Soviet Union had glorified neo-liberal thinking and generated a blind, fundamentalist belief in market forces and unfettered business. Now, the excesses of unbridled capitalism continue to haunt the US. Next year, President Obama intends to inject a further $600 billion into the US economy to ensure continued economic recovery. America’s national debt is expected to reach $13.3 trillion representing some 52 per cent of GDP. China owes more than 20 per cent of America’s debt.
The world needs a strong dollar, while the US needs a weak currency to push exports while minimising imports. For many years, America’s priority was to encourage cheap imports and keep the cost of living down. Its perceived number-one enemy was inflation not unemployment. Now, President Obama says he wants to boost US manufacturing to generate jobs at home. China is seen as the primary culprit. The low value of China’s renminbi (also referred to as yuan) is seen as unfair competition.
Communist China denies its currency is undervalued. It insists revaluation of its currency would threaten exports, jeopardise jobs and lead to social unrest. China points out that, since last June, it has been adopting a more flexible approach and that since then the renminbi appreciated by two per cent relative to the US dollar.
Moreover, China argues that the US’s woes are self-inflicted and result mainly from America printing too many dollars. A weak dollar unleashes global inflationary forces as it pushes up the international prices of essential commodities such as oil and food.
A significant part of this excess supply of greenbacks then finds its way to other countries through imports or short-term portfolio investments.
Emerging markets are presently primary recipients of these investments as their rates of interest tend to be more attractive than those found in the more advanced economies. Unduly high inflows of capital are unwelcome because they tend to be inflationary and enhance the risk of speculative bubbles in the financial and property markets. Capital inflows push up the value of the local currency, rendering exports less competitive. These considerations have induced countries such as Brazil and Thailand to impose a tax on capital inflows.
The relative strength of currencies has become a main issue as the world economies struggle to increase their share of global business.
The Sino-American rift has serious consequences on the rest of the world, including the EU. A strong euro unduly hurts the weaker economies, threatening their recovery and enhancing the possibility of their defaulting on their debts.
Competitive devaluation is a weapon that awakens the spectre of retaliatory protectionism. It highlights all the limitations of the present monetary system in this age of globalisation and reduced dominion by the US. Marginal measures such as that giving more say to emerging nations within the IMF while welcome are not enough.
Globalisation calls for effective global institutions and governance. In this respect the G20 meeting in Seoul just confirmed how far away the world leaders are from finding a sustainable solution to the currency war.
fms18@onvol.net