Peace in commerce and war in currency

Pablo Heidrich, Guest Blogger

Since the last G20 meeting in Seoul to now, as we approach to the next G20 meeting in Paris later this year, one particular subject has consumed the political efforts and bargaining of its country members: what to do in response to the US monetary policy of “quantitative easing”? This policy measure is also known as printing real or fictional money until the sun sets – $600 billion this time – to buy medium and longer term US government bonds. According to its architect, the US Federal Reserve, it should help restart economic growth in the United States by lowering the mid-term cost of credit.

Beyond the technical details, printing money is an old and tested means of trying to resuscitate an economy in the midst of a serious recession, or even one risking depression and deflation. The problems of such policies are well known, too. Increasing the money in circulation eventually produces inflation and one can be trapped in a situation where the economy could get worse instead of better as investors and consumers anticipate increasing prices and costs, and refrain from making productive investments and larger purchases.

But the US Federal Reserve is hoping that before those negative effects set in its domestic economy will pick up and absorb that excess liquidity, via more investments and consumption in durable goods that, in turn, will generate more jobs in the US. Such a positive cycle is not happening at the expected pace, however, and instead those newly-printed US dollars are likely to end up invested abroad, in countries that offer better returns at this point. And that is precisely what has happened in the previous instances of “quantitative easing” the US has undertaken since this crisis began. In other words, the US central banking authorities keep on underestimating the internationalization of their own financial sector, which has a state-of-the-art capacity to invest globally, as opposed to only do so domestically.

It is quite an irony that a country that for decades has so vigorously promoted the liberalization of financial accounts and the internationalization of banking around the world now behaves as if such reforms had not been done in its own economy. One is tempted to call Washington these days and suggest that they, as opposed to the rest of us, set up exit capital controls so that they can keep their newly-printed currency at home, without producing inflation in the rest of the world. That would surely help the resuscitating function of the dollar-printing shop.

A second irony is that together with the wish to make credit cheap in the US the Federal Reserve hopes to devalue the US dollar vis a vis its main trading partners (China, Canada, Mexico, EU, Japan, in that order). For that, the US government does have another much more direct tool, obviously known as trade policy, which it has chosen not to use so far in a systematic manner. Washington could raise tariffs on those imports that hinder most the creation or expansion of its most labor-intensive industries. Its current applied tariff level is only 3 per cent, but the consolidated or allowable level is a full 11 per cent. And these are only averages, in many sensitive tariff lines; protection could legally, as per WTO agreements, reach 20-25 per cent.

It is often said that the Great Depression was made worse precisely by trade protectionism, usually exemplified in the US raising tariffs in 1930 and other countries following suit. That belief promoted the G20’s solemn promises to refrain from using such protection measures in this new crisis. This assurance has been taken quite literally, and the WTO, the World Bank and the IMF have confirmed that the use of trade policy for protectionism has, in fact, been very limited this time. But one must add that such literary commitment to free trade has clearly not included devaluing currencies to obtain trade advantages.

At first glance it is true but also too simplistic to conclude that currency devaluations are taking place precisely because we do not have clear rules and enforcement agencies to prevent them, unlike the situation that does exist today in global trade governance. There, the WTO systematically reviews its members’ policies and trade partners can demand compensation for each increase in protection that affects them. Following that reasoning, the G20 has lived up to its word in not increasing tariffs. The corollary is again very simple: if we just had something like the WTO for monetary policies, either in the form of the IMF or another agency, discipline could have been maintained.

The problem with this view is that by artificially separating the realms of trade and finance policy, we fail to understand that both are parts of the same goal: maintaining a global contract where national governments commit themselves to securing their populations’ well-being while keeping an open global economy. The rapid over-disciplining of global trade in the last two decades, culminating in the establishment of the WTO, has in fact been a central cause for the currency confrontations that we are having today, now that a scenario of global crisis presses governments to maintain their domestic side of the global bargain.

The resort to the printing press, and others would argue to market interventions to maintain undervalued currencies, is therefore a blunt way of cutting corners to simultaneously re-start or maintain domestic economic growth, while maintaining the illusion that current levels of low trade protection make sense regardless of how the global economy is performing. But being blunt does not mean that monetary policies are in need of regulation or disciplining. It means that the other instruments that could have been used instead were too foolishly sworn away, either in practice via WTO deals or in the minds of policymakers, as if they would never be needed again. And in global governance, be that of trade or finance, nothing makes as little sense as having no institutionalized clauses and no pragmatism to use them in times of crises.

Pablo Heidrich is Senior Researcher for Trade and Development at the North-South Institute in Canada.

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