How US creates currency wars with no winners
Andrew Sheng says academic's book delivers irrefutable home truths on US monetary policy
Travelling around Southeast Asia last week, the mood was all about currency fluctuation and its impact on markets. Things do look different when the Thai stock market's daily turnover touches US$2 billion and is higher than that of Singapore. But the headline that Thai growth slowed quarter on quarter but was still 5.3 per cent year on year gave rise to fears that export-driven economies in the region are beginning to slow.
The guru on the dollar relationship with the East Asian currencies has to be Stanford professor Ronald McKinnon. He made his name with his first book, Money and Capital in Economic Development, where he took forward the pioneering work of his Stanford colleague, Edward Shaw, on the phenomenon of "financial repression" - the use of negative real interest rates as a tax to finance development.
If the dollar is weak because the US economy is weak, then all other currencies will be volatile
McKinnon's second area of expertise is the international currency order, explaining the macroeconomics of the US dollar and its relationship with other currencies such as the yen. The trouble was that his analysis did not "jive" with the populist policy view that "revaluing the other currency" would reduce the US trade deficit.
This began with the concern in the 1970s that the US-Japan trade imbalance was due to the cheap yen relative to the dollar. The Plaza Accord in 1985 was the political agreement to strengthen the yen and depreciate the dollar. From 1985 to 1990, the yen appreciated from 240 to 120 per dollar; a huge bubble and two lost decades of growth followed.
In his new book, The Unloved Dollar Standard: From Bretton Woods to the Rise of China, McKinnon explains some uncomfortable truths. The dollar standard is unloved because of what one US Treasury secretary told his foreign critics of US exchange rate policy - "our dollar, your problem".
McKinnon argues that US monetary policy has been highly insular, despite globalisation making such insularity obsolete, and that three macroeconomic fallacies were responsible - the Phillips curve fallacy; the efficient market fallacy; and, the exchange rate and trade balance fallacy.