Two Saints, Praying To A Strong Dollar

The Opinion pages of today's NY Times present us with a sort of medieval diptych, Nouriel Roubini and Victor Zhikai Gao both sing the praises of a strong dollar and advise us of what we must do so that this glorious boon of God will continue to bless our humble earth.
For Roubini: This would have serious costs for America, as our ability to finance our budget and trade deficits cheaply would disappear.
And Gao tells us that this will have international consequences:
Many Chinese people increasingly fear the rapid erosion of the American dollar. The United States may want to consider offering inflation-protection measures for China’s existing investments in America, and offer additional security or collateral for its continued investments. America should also provide its largest creditor with greater transparency and information.
Of course the way we get back to a strong dollar from here is not at all pretty. Roubini can say that: The United States must rein in spending and borrowing, and pursue growth that is not based on asset and credit bubbles. But, at this point in history what does that mean?

The usual way to do this, practiced repeatedly by the IMF, is to cut government deficits - that would be to reduce spending and increase taxes - and to decrease the supply of the currency in question - that would be to raise interest rates.

Which is precisely what happened during the Great Depression. In 1933, after the decline of the economy had slowed somewhat, people decided that things were going to get better. Roosevelt thought that it was time to cut spending and balance the budget. Meanwhile the Federal Reserve tried to keep the nation on the Gold Standard - this is documented in Golden Fetters and excellent book by Barry Eichengreen. The result was lowered employment and a wave of bank failures. Recovery was effectively choked off.

So if people lose faith in the dollar how will we finance our budget deficits? To which question Wonks Anonymous responds that we have a great surplus of domestic savings. The people of this country want to save, they need access to financial instruments that offer moderate real returns and real security. See the post Recovery Bonds for a full treatment of this issue. If we keep people employed we can finance our budget deficits ourselves.

And how about the trade deficits? Well, maybe we don't need them after all and maybe imports would be a fine place to cut back on consumption. How much cheap imported crap do we really need? Should we really be using this much oil?

So who loses if the dollar loses value? That would be all of the people who have been selling us goods and buying our debt.

As the dollar loses value we pay them back with money that buys less and less on international markets.

Also, as the dollar loses value, the goods that they sell to us become more expensive and we buy less of them.
Which means that "financing the trade deficit" is less of a problem.

So Wonks Anonymous is just fine with the demise of the dollar as a reserve currency. Let someone else shoulder the burdens of international monetary hegemony. We can moderate our lifestyles, save more, produce more and lead simpler and better lives.

 

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