Transcript presented at - Harvard University

The World Monetary System:
Time for a “New Bretton Woods”?
Jeffrey Frankel
Harpel Professor of Capital Formation and Growth,
Harvard University
HM Treasury
London, 16 June, 2010
July is the 66th anniversary
of the 1944 meeting in New Hampshire
President M. Nicolas Sarkozy
Speech at Davos WEF 27 Jan., 2010
• “Today, we need a new Bretton Woods….
France, which will chair the G8 and the G20 in
2011, will place the reform of the international
monetary system on the agenda.”
• I have a story
– about Bill Clinton, Tony Blair, and
proposals for a new Bretton Woods.
Design of a global monetary system,
as Bretton Woods, addresses several features:
• Exchange rate regime
– Fixed (but adjustable) at BW
• International reserves
– Gold at BW, but $ de facto
• Institutions of global governance
– IMF, IBRD, & eventual WTO. Post-1973: G7 de facto.
• Trade account regime
– Open
• Capital account regime
– Closed then; open after 1973.
Classical trilemma:
Adjustment, Liquidity & Confidence
Source: http://web.mit.edu/krugman/www/triangle.html#triangle
[Incl. capital controls]
President Sarkozy’s thoughts
– some of which I approve
and some not –
make a good organizing principle.
• “Let us be clear about this: we're not asking
ourselves what we will replace capitalism with,
but what kind of capitalism we want.”
Free trade
• Looking back on the 2007-09 recession,
in retrospect,
– despite some slippage in trade policy,
• e.g., US tariffs against Chinese tires
• and failure to ratify FTAs with Colombia & Korea.
– we did pretty well, considering:
•
•
•
•
Despite severity of the recession,
we did not repeat auto quotas of 1981
nor steel tariffs of 2001 -let alone Smoot-Hawley !
• But the stalled Doha Round suggests
the bicycle theory of trade policy is dead:
– We might have been better off if we hadn’t tried.
Followed by some non sequiturs
• “We will never put an end to hunger, poverty
and misery in the world if we do not succeed
in stabilising the prices of raw materials,
which at present are completely erratic.”
• Price stabilization schemes never work.
• Commodity producers need institutions
that accommodate price fluctuations.
• JF, “The Natural Resource Curse: A Survey”
June 2010; forthcoming in Export Perils, B. Shaffer , ed. NBER WP 15836.
Adjustment:
The global current account imbalances problem
• Countries with trade surpluses must consume more
and improve the living standards and social protection
of their citizens. Countries with deficits must make an
effort to consume a little less and repay their debts.”
• Yes, Chimerica should adjust:
– China should shift from manufacturing/exports,
• to domestic demand, services, safety net, etc.
– America should save & export more, spend less.
• This should be coordinated between equals;
– US attempts to scape-goat China and impose adjustment
in the name of international fairness are ill-advised.
Global current account imbalances
– China’s surplus and America’s deficit –
narrowed ≈ ½ in the 2009 recession.
10
Global current account imbalances
– China’s surplus and America’s deficit –
are expected now to widen again some,
with recent recovery in US income & the $.
Exchange rate regime
• “Currency is central to these imbalances. It is the
principal instrument of the policies that perpetuate them.
• We cannot put finance and the economy back in order if we
allow the disorder of currencies to persist. Exchange rate
instability and the under-valuation of certain currencies
militate against fair trade and honest competition. …
• The prosperity of the post-war era owed a great deal to
Bretton Woods, to its rules and its institutions.”
• Nonsense !
• If a new Bretton Woods means exchange rate stability,
this is the opposite of ending China’s undervaluation !
My view is that intermediate exchange rate
regimes are the right answer
for countries like China
• The corners hypothesis is dead.
– Free floating or firm fixing are in fact not the right
answer for many countries, perhaps for most.
• In my view the version of Inflation Targeting
that pretended smaller countries would ignore
exchange rate fluctuations is also dead.
• JF, “Experience of and Lessons from Exchange Rate
Regimes in Emerging Economies,” in Monetary & Financial
•
Integration in East Asia: The Way Ahead (Palgrave Macmillan) 2004.
JF "The Renminbi Since 2005,“April 2010, in The US-Sino
Currency Dispute: New Insights from Economics, Politics and Law, Simon
Evenett, ed. (VoxEU), 51-60.
• In my view, Inflation Targeting,
the orthodox monetary regime, was dealt blows
by the global financial crisis of 2008-09,
– much as exchange rate targeting was dealt blows
by the emerging market crises of 1994-2001.
• IT told central banks to ignore fluctuations in asset
prices & terms of trade. Both were mistakes.
• JF, “Monetary Policy in Emerging Markets: A Survey,”
NBER WP, June 2010.
The Handbook of Monetary Economics,
edited by Benjamin Friedman and Michael Woodford, forthcoming, 2011.
• My proposal for small countries:
Product Price Targeting, rather than CPI targeting.
Exchange rate regimes, continued
• It turns out that those countries who built up
reserves in the boom of 2003-08 did better in the
global crisis of 2008-09 than those who did not.
• JF, with G. Saravelos, “Are Leading Indicators of
Financial Crises Useful for Assessing Country
Vulnerability? Evidence from the 2008-09 Global
Crisis” June 2010. NBER WP 16047.
Were current account imbalances the
cause of the global financial crisis?
• “Let us look at the root of the problem:
it was the imbalances in the world economy
which fed the growth of global finance…”
• Here M.Sarkozy is in very good company.
• But, reluctantly, I have to disagree.
Economists were (are) split between
those who saw the US deficit as
unsustainable, requiring a $ fall,
and those who saw
(see) no problem.
•
•
•
•
•
•
•
•
Ben Bernanke
Ricardo Caballero *
Richard Cooper
Michael Dooley
Pierre-O. Gourinchas
Alan Greenspan
Ricardo Hausmann
Lots more
•
•
•
•
•
•
•
•
Ken Rogoff *
Maury Obstfeld
Larry Summers
Martin Feldstein
Nouriel Roubini
Menzie Chinn
Me
Lots more
* Some claim that the financial crisis of
2007-09 fits their theories.
17
Were current account imbalances
the cause of the financial crisis? continued
• Those of us who predicted an unsustainable
US current account deficit and a $ hard landing
were proven wrong by the 2008 movement into $.
• Meanwhile, those who said the US CA deficit was
sustainable because of the superior quality &
desirability of US assets were also proven wrong.
• corporate governance, rule of law,
• accounting system,
• securities markets, rating agencies…
MSN Money & Forbes
Were current account imbalances
the cause of the financial crisis? continued
• The financial excesses of 2001-2007 would have been
pretty much the same even if each country’s inflows &
outflows had netted out.
• The US ran current account deficits (financed by
foreign official $ purchases) as a side efffect of excess
liquidity and overspending, not primarily as a cause.
– Gross foreign private purchases of US assets fell
from $1.6 trillion in 2006 & 2007, to zero from 2008 II.
– In net terms, private foreigners have been financing less of
the US CA deficit than foreign central banks ever since 2003.
• The story is in the volume of gross financial
transactions, and in the price. Not in the net.
Then what was the cause of the crisis?
• “…the use of leverage, to an unreasonably
disproportionate extent, created a form of capitalism
in which taking risks with other people’s money
was the norm…”
• “The other question we can no longer avoid is that of the
role banks must play in the economy. The banker's job is
not to speculate, it is to analyse credit risk, assess the
capacity of borrowers to repay their loans and finance
growth of the economy. …
[M]any banks were no longer doing their job.”
Congress is about to pass a surprisingly good
(all things considered) financial reform bill.
• Mortgages
– Fix “originate to distribute” model,
• so lenders stay on the hook.
– Consumer protection agency,
• including standards for mortgage brokers
• I would not let the Fed have this one.
Latest: it may be independent after all.
– Remove policy bias toward housing debt.
• Fannie Mae, Freddie Mac, income-tax-deductibility
of real estate taxes and, especially mortgage interest.
• Sadly, politicians won’t hear of it.
Financial reform, continued
• Banks:
– Regulators shouldn’t let banks use their own risk models;
• should make capital requirements higher & less pro-cyclical.
– Is “too big to fail” inevitable?
• Yes, unless resolution authority.
• The worst is to say “no” and then do “yes.”
– Tax banks, so that they pay for rescues in long run,
• internationally coordinated;
• But don’t earmark the revenues for a bailout fund.
Financial reform, continued
• Banks, continued:
– Extend bank-like regulation to “near banks.”
– Segmentation of function:
• Volcker rule, banning proprietary trading?
– It looks like we will get it.
• Perhaps even with Sen.Lincoln rule:
– banks have to spin off swaps trading desks (FT , 14 June)
• All the way back to Glass-Steagall?
» I don’t think so.
Financial reform, continued
• Securities
– Credit ratings:
• Reduce ratings agencies’ conflicts of interest.
• Reduce reliance on ratings:
– “AAA” does not mean “no risk.”
• Derivatives:
– Create a central clearing house for CDSs .
• Possibly central exchange as well
– Don’t ban short sales, as the Germans are doing.
Financial reform, continued
• Executive compensation
– Compensation committee not under CEO.
– Maybe need Chairman of Board ≠ CEO,
• as in UK.
– Discourage golden parachutes & options,
• unless truly tied to performance.
MSN Money & Forbes
Global Governance
• “The G20 foreshadows the planetary
governance of the 21st century. …
• In just one year, we have seen a genuine revolution in
mentalities. For the first time in history, the Heads of
State and government of the world's 20 largest
economic powers decided together…”
• Yes ! Long overdue.
Multiple International
Currency System
• We cannot have, on the one hand, a multipolar
world and, on the other, a single benchmark
currency across the globe. …
Multiple International
Currency System
•
I retract my 2005 econometric projection that the € could
challenge the $ by 2022 in CBs’ reserve shares.
•
The SDR has come back
from the dead in 2009.
•
Gold has made a comeback
as an international reserve too.
•
Someday the RMB will
join the roster with ¥ & ₤.
•
= a multiple international reserve currency system.
Simulation of central banks’ of reserve currency holdings
Scenario: accession countries join EMU in 2010. (UK stays out),
but 20% of London turnover counts toward Euro financial depth,
and currencies depreciate at the average 20-year rates up to 2007.
From Chinn
& Frankel (Int.Fin., 2008)
.8
Simulation predicts € may overtake $ as early as 2015
.7
USD
.6
EUR
forecast
.5
USD forecast
.4
.3
DEM/EUR
.2
Tipping point in updated
simulation: 2015
.1
.0
30
1980
1990
2000
2010
2020
2030
30
2040
SDR
•
•
•
More surprising: the SDR’s comeback from near-oblivion.
The G20 & IMF decided to create new SDRs ($250b).
Shortly later, PBoC Gov. Zhou proposed replacing
the $ as lead international currency with the SDR.
The IMF is now borrowing in SDRs.
•
–
The proposal has been revived for an international substitution
account at the IMF,
•
•
•
to extinguish an unwanted $ overhang in exchange for SDRs.
The SDR has little chance of standing up as a competitor
to the € or ¥, let alone to the $.
Still, it is back in the world monetary system.
Gold
• Until very recently, central bank holdings of
gold was considered an anachronism.
– Central banks were gradually selling it off.
• Now gold is back on the list of international
reserve assets
– China bought gold in early 2009.
– India bought 200 tons in November.
– Sri Lanka…
•
A multiple reserve currency system is inefficient,
in the same sense that barter is inefficient:
money was invented in the first place to cut down
on the transactions costs of exchange.
•
Nevertheless, if sound macro policies
in the leader country cannot be presumed,
the existence of competitor currencies gives
the rest of the world protection against the leader
exploiting its position by running up too much
debt and then inflating/depreciating it away.
The 2001-2020 decline in international currency status for
the $ would be only one small part of
a loss of power on the part of the US.
But:
A loss of $’s role as #1 reserve currency could
in itself have geopolitical implications.
Historical precedent: £ (1914-1956)
• With a lag after US-UK reversal of ec. size & net debt,
$ passed £ as #1 international currency.
• “Imperial over-reach:” the British Empire’s widening
budget deficits and overly ambitious military
adventures in the Muslim world.
Global Climate Change
• “In Copenhagen, quantified commitments on climate change
were made by all the big countries. …How can we not see
that the possibility of adopting a carbon tax at orders
against environmental dumping would, without any doubt,
constitute a strong incentive to respect the common rule?”
• No; commitments have not advanced far enough:
– US, China...
• Although border taxes on carbon can be part of a regime,
top priority should be setting guidelines for national
border measures.
– G20, or US-EU-China or WTO Secretariat.
– Otherwise, national politicians’ measures will be discriminatory.
Jeff Frankel website: www.hks.harvard.edu/fs/jfrankel/
• "What’s 'In' and What’s 'Out' in Global Money," in
Finance and Development,
46, no.3, Sept. 2009, 13-17.
At: www.imf.org/external/pubs/ft/fandd/2009/09/pdf/frankel.pdf.
• “Global Macroeconomic Address: The Impact
of Current Economic & Regulatory Policy on
Economic Recovery -- Where Does the Financial
Crisis Leave the U.S. Economy in Global Terms?”
June 3, 2010.
Slides at: www.hks.harvard.edu/fs/jfrankel/SuperJune2010incIntAp.ppt.