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Tuesday, December 14, 2010

G20: Can It Balance the Global Imbalances?

Well before the commencement of the Seoul meet, the governments of China, Germany, Brazil, and Russia, along with the Republicans of America, started screaming at the US policy of ‘quantitative easing’ (QE2). It all started with   the Fed announcing its intention to purchase another $600 bn of long-term Treasury securities essentially “to promote a stronger pace of economic recovery and to help ensure that inflation [which is reported to be running at the lowest level ever recorded of just 0.6%], over time, is at levels consistent with its mandate,” so that bond yields will be down and employment gets maximized.

And these countries—particularly, China and Germany which are known to maintain huge trade surpluses—pounded the US with redoubled energy at the Summit too, indeed as never before. No one is willing to buy the argument that since the short-term interest rates in the US are already near zero, the Fed, which like any other Central Bank being engaged in stimulating its economy, has no alternative but to create new bank reserves to purchase medium- and long-term securities. It is simply a ‘monetary policy’!

Yet, no one is ready to agree, for they consider it as ‘inflationary’ and a means to currency manipulation. Which is why they argue that the current move of the Fed is certain to lower the international value of dollar and raise the world commodity prices, leading to a fall in the profit margins of businesses, obviously, of the export-oriented economies. To a certain extent, there is truth in the argument: after all, if certain countries are to run trade surpluses, there must be some with trade deficits. And all along, it is the US which happened to be the country with deficit. But the present move might, to a certain extent, weaken the US dollar, making the US goods more competitive globally, and lessen the US trade deficit; and that is what is disturbing these trade-surplus countries, for, after all, they need the US market for sustaining their export-led economies.

And surprisingly, a section of Americans, the Republicans, too argue that “printing money is no substitute for pro-growth fiscal policy” and that growth should be pursued instead through “tax-relief, spending restraint and regulatory reform.” But common sense tells that such steps might lead to fresh investments in businesses leading to growth but are sure to push the unemployment—which is already hovering around 9.6%—to unbearable levels. And the Chinese hit the last nail in the coffin when they pleaded, “The major reserve currency issuers, while implementing their monetary policies, should not only take into account their national circumstances but should also bear in mind the possible impact on the global economy.”

That said, we must also appreciate that things do not happen in the real world always as economics textbooks say. For instance, in the present case, if the current move of the Fed results in a stronger growth in the US, it might as well push the dollar up. Secondly, the US dollar, unlike the Chinese currency, is a floating currency, and its exchange rate is dependent on many factors, besides monetary policy.

Now, it is amidst such conflicting interests, albeit genuine, that the Seoul Summit began. Therefore, no wonder if the summit wasn’t what it was during the crisis (2008; 2009), but a splintered one “with competitive policies and rancor taking the place of coordinated policy actions.” Indeed, the mood of the summit well reflected in what the IMF Managing Director said: “This G20 was more a G20 of debate than a G20 of conclusion.” Fair enough! The member countries exhibited enough maturity to discuss the ambitious wish list brought by each member to the table, iron out the differences, and agree to assess the global imbalances on the lines of “indicative guidelines—composed of a range of indicators [that] would serve as a mechanism to facilitate timely identification of large imbalances that require preventive and corrective actions to be taken.” 

Although the ‘guidelines’ sound nebulous, the realization of the very need for and importance of ‘coordinated action’ by the G20 countries to bounce back from the ashes of the global financial crisis is in itself no mean achievement for the summit. It is encouraging that the leaders have consented to enhance the scope of “exchange rate flexibility to reflect…eco-nomic fundamentals,” obviously of respective countries. They have also consented to refrain from ‘competitive devaluation’ of currencies. It is equally encouraging that they all appreciated the importance of ‘policy coordination’ to navigate forward, of course, by submitting domestic policies for scrutiny to a technical body such as IMF.

Here, it is worth appreciating the fact that in the interest of the US bond yields to bounce back to high pitch and remain intact on a long-term basis, it is highly desirable to welcome any measure that helps the US expand the domestic demand and rebalance its external position. And the present monetary stance of the Fed is certainly in that direction.

True, issues pertaining to currencies and trade imbalances are not that simple to be ‘solved overnight’, but their very discussion “in a proper multilateral way without resort to tit for tat measures and selfish policies” is the only way forward for a better global economy.
-         GRK Murty


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