Earlier this week, I did a post on Chinese central bank governor Zhou Xiaochuan’s essay calling for the replacement of the dollar as the world’s reserve currency. Today’s FT contains another instalment of big picture thinking from China on the global economy – this time from Yu Qiao, an economics professor at Tsingua University’s School of Public Policy and Management.
Like Zhou, Yu is explicit on Chinese worries about the potential erosion of the value of their rather large stash of US dollars – $1,200 billion of T-bills alone. “Most of Mr Obama’s stimulus spending is devoted to social programmes rather than growth promotion,” he notes, “which may exacerbate America’s over-consumption problem and delay sustainable recovery”.
What’s more, he continues, that could in turn end up doing exactly what Tim Geither was worried about in the wake of Zhou’s essay: an erosion of the dollar’s role as reserve currency. Here, interestingly, there’s what looks like a signal of preparedness to moderate the position set out in Zhou’s essay. Yu says explicitly that,
No other international monetary system offers a viable alternative. However, we can make the main reserve currency power more accountable by creating an instrument to help manage the global crisis.
Admittedly, Yu is an academic and not a member of the government. But it’s very hard to imagine that a senior Chinese professor would directly contradict his government’s position, on such an acutely political issue, in a time of such severe risks, in the FT, the day before the G20 summit, without clearance. At the same time, using this approach avoids losing face for Zhou – and may signal a willingness to talk, rather than a definite climbdown.
So what does Yu propose as an alternative way of safeguarding China’s assets, if not reform of the dollar’s reserve currency role?
The basic idea is to turn Asian savings, China’s in particular, into real business investments rather than let them be used to support US over-consumption are vulnerable to any fall in the value of the dollar, equity claims on sound corporations and infrastructure projects are at less risk from a currency default.
See the article for full details on how this would work – significantly, Yu says that the US government would need to act as guarantor, “providing a sovereign guarantee scheme to assure the investment principal of the crisis relief facility against possible default of targeted companies or projects”. His conclusion:
The crisis relief facility would lessen Asians’ concern about implicit default of sovereign debts caused by a collapsing dollar. It would cost little and help the US by channelling funds to business investment. Conventional Keynesian policies – fiscal and monetary expansion on a national basis – cannot solve the problem but will make it worse.
Martin Wolf shares some of the concern set out in the last sentence, albeit from a slightly different standpoint. His big concern about the current tenor of discussion on fiscal stimuli is that
…next to no adjustment in underlying structural imbalances is occurring. In particular, the non-fiscal sectors of the three big surplus countries [China, Japan and Germany] are expected to continue to run huge surpluses. The change – temporary, the surplus countries surely hope – is that domestic fiscal expansion is modestly offsetting the decline in demand coming from deficit countries with over-leveraged private sectors. But that decline in private demand is also offset by massive fiscal boosts in deficit countries.
This is not a path towards a durable exit from the crisis. It is a path on which the fiscal deficits needed to offset persistent current account deficits, and collapsing private spending in external deficit countries, continue indefinitely. Unless and until surplus countries recognise that this cannot continue, no durable escape from the crisis will be achieved. Understandably, but foolishly, they are unwilling to do so.
Wolf concludes that while part of the answer is about changing the policies of surplus countries, it’s also at least as much about “rethinking the international monetary system”; in this light, he sees Zhou’s paper as “fascinating”.
As David noted in his excellent speech on international reform at the start of the year, the issue of current global economic imbalances is right at the core of the current turmoil. Why Zhou’s paper is so significant, I think, is that in referencing Keynes’s idea of the ‘bancor’ as a new reserve currency, he’s nodding towards a system with built-in homeostasis: global imbalances would automatically be prevented from building up, through incentives inherent to the system. This is exactly the kind of comprehensive shared operating system we ought to be thinking about – yet there are real questions about whether the current multilateral summit system has the bandwidth to handle such far-reaching proposals, even if the political will were there.
Yu’s proposed approach would probably be more acceptable to the US in the short term. But on the other hand, it’s not yet clear to me that it would be as effective as a way of preventing global imbalances from building up again in the future. Whatever happens tomorrow, it’s important that policymakers don’t lose track of where we need to be headed in the longer term – and think seriously about equipping their decision-making processes with the capacity to think further ahead.