Transcript The Unloved World Dollar Standard: Greenspan

The Unloved World Dollar Standard:
Greenspan-Bernanke Bubbles
in the Global Economy
Ronald McKinnon
Stanford University
The Political Economy of international Money: Common Currencies, Currency Wars,
and Exorbitant Privilege
Federal Reserve Bank of Dallas
April 3, 2014
The Unloved World Dollar Standard
1945—2014
• In major crises, IMF is lender of first resort but
the Federal Reserve is the lender of last resort:
Europe 2008 and 2011 Interbank dollar swaps
• However, in determining US monetary policy, the
Fed is inward looking and ignores ROW
• Episodes of US easy money, and /or talking the
dollar down, provoke hot money outflows
• From the Nixon Shock of 1971 to GreenspanBernanke near-zero interest rates and
quantitative easing in the new millennium
From Tri-lemma to Dilemma for
Emerging Markets (EM)
• Wide interest differentials between the center and
periphery induce hot money inflow to EM.
• Contrary to conventional wisdom, EM with convertible
currencies cannot achieve independent monetary policies
by floating their exchange rates
• The dilemma for EM central banks:
-float and appreciate, lose export competiveness. Dollar
value of Brazilian Real doubled between 2003 and 2007.
-or intervene to buy dollars and stabilize the exchange rate,
lose monetary control, and inflate
• Collective monetary expansion and inflation in EM spawns
bubbles in world commodity prices and other assets.
Figure 1: US Interest Rates
8.0
7.0
6.0
5.0
4.0
USD Libor
10 Year Treasury
3.0
2.0
1.0
0.0
Source: FRED
Figure 7. GDP Weighted Discount Rate of BRICS and G3
12
%
10
8
6
4
2
0
2000
2001
Source: IMF, EIU
2002
2003
2004
2005
2006
BRICS
2007
G3
2008
2009
2010
2011
2012
8000
Figure 2. Emerging Markets and China, Foreign Exchange Reserves (Billion USD)
7000
6000
5000
4000
3000
2000
1000
0
Jan-01
Jan-02
Jan-03
Jan-04
Jan-05
Jan-06
Jan-07
Total Emerging Markets
Jan-08
Jan-09
China
Jan-10
Jan-11
Jan-12
Jan-13
Figure 3 Headline CPI: EM and US
10
8
6
4
GDP Weighted EM CPI
US Headline CPI
2
0
-2
Source: EIU, Author's Calculation
Emerging Markest include: Brazil, Chile, China, Colombia, Czech Republic, Egypt, Hungary, India, Indonesia, Malaysia, Mexico, Philippines, Poland,
Russia, South Africa, South Korea, Taiwan, Thailand
Carry Trades and Banking Crises
• Carry Traders exploit the interest differential by
borrowing at low interest rates in “source”
currencies to invest in high-interest “investment”
currencies in EM.
• They are unhedged risk takers who borrow at
short term in source currencies from banks.
• But if banks face an unexpected crisis, they stop
lending to risky borrowers and refuse to roll over
old credits
• Hot money then suddenly returns to the center—
particularly to the US, which is seen as a safe
haven under the dollar standard
• Dollar appreciates, EM currencies slump
Figure 2A Change of Reserves in Selected Emerging Countries
Source: Financial Times
Figure 4 BRICS Currencies, LCU (local currency unit)/USD, Jan-2002=100
160
140
120
China
Brazil
100
Russia
India
South Africa
80
60
40
Exchange Rate Behavior on the
Periphery: China versus Brazil
• Two Great Waves of hot money flows into the periphery:
2002 – 2007, mid 2009 to mid 2011
• China keeps yuan/dollar rate fairly stable with slow RMB
appreciation after mid 2005. Every morning, PBC sets Y/$
central rate at level of the close of previous trading day.
Daily variation of ± 1 percent (increased to ± 2 percent in
March 2014) is then permitted. Sustains high growth.
• Brazil much closer to a free float. Dollar value of the real
doubled between 2003 and 2007, and knocked Brazil off its
high growth path.
• Other BRICS more like Brazil than China; heavy interveners
but not very successful in smoothing their dollar rates.
Figure 5. US Real Effective Exchange Rate, Jan-2000=100
Credit Crunch
125
120
Dollar Carry Trade
115
New Dollar Carry Trade
110
105
100
95
90
85
80
Source: Federal Reserves
Eurozone
Crisis
Emerging
Market
Slowdown
Primary Commodity Bubbles
• Loss of monetary control in EM collectively leads
to bubbles in primary commodity prices, many
EM are primary commodity producers
• Ultra low interest rates at the center attracts
carry traders willing to bet on price increases.
• But sudden increases in primary commodity
prices can devastate political systems in LDCs
which depend on low food and fuel prices.
• Witness food riots leading to the “Arab Spring”
Figure 6: The Greenspan-Bernanke Bubble Economy 2002 to 2013 (2005 =100)
240
220
200
180
160
140
120
100
80
2003
2004
Source: Bloomberg
2005
Case-Shiller
2006
2007
2008
CRB Commodity Index
2009
2010
S&P 500
2011
2012
Core CPI
2013
Figure 8 Food/Agriculture Product Price (2005=100)
350
Start of
Arab Spring
Dec 2010
300
250
200
150
100
50
2005
Source: Bloomberg
2006
2007
2008
2009
UN Food And Agriculture World Cereals Price Index
2010
2011
2012
S&P GSCI Agriculture Index
2013
Figure 10. GDP growth: Developed vs. Developing World
10
%
8
6
4
2
0
-2
-4
-6
Source: IMF
Advanced Economies
Emerging and Developing Countries
Figure 9. Size of Central Bank Balance Sheet, % of GDP
40%
35%
30%
25%
20%
15%
10%
5%
0%
Source: Bloomberg, OECD Stat
Japan
UK
US
EuroArea
Springing the Low Interest Rate Trap
• Recognize that ultra low interest rates in the US are bad for
it as well as for EM
• Near zero nominal interest rates in US distort financial
intermediation: a supply constraint on bank- based or
indirect finance that penalizes employment in SMEs, .
• Corporations can desert banks and directly use bond or
equity markets that thrive even at very low interest rates.
• European economies are even more dependent on
intermediating financial flows through banks, and thus are
more damaged by near zero short-term interest rates.
• U.S start tapering by phasing in higher short rates up to a
modest 2 %. Then phase out quantitative easing: let long
rates be market-determined subject to the constraint that
future short-term rates will remain modest. Other central
banks in the industrial economies would (should?) follow.