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------------------------------------------------------------------------http://www.foreignaffairs.org/20070501faessay86308/benn-steil/the-end-of-national-currency.html
*The End of National Currency*By Benn Steil
>From /Foreign Affairs/,
May/June 2007
------------------------------------------------------------------------Summary:
Global financial instability has sparked a surge in "monetarynationalism" -- the
idea that countries must make and control their owncurrencies. But globalization
and monetary nationalism are a dangerouscombination, a cause of financial crises
and geopolitical tension. Theworld needs to abandon unwanted currencies,
replacing them with dollars,euros, and multinational currencies as yet unborn.
/ Benn Steil is Director of International Economics at the Council onForeign
Relations and a co-author of Financial Statecraft. /
THE RISE OF MONETARY
NATIONALISM
Capital flows have become globalization's Achilles' heel. Over
the past25 years, devastating currency crises have hit countries across
LatinAmerica and Asia, as well as countries just beyond the borders ofwestern
Europe -- most notably Russia and Turkey. Even such animpeccably credentialed
pro-globalization economist as U.S. FederalReserve Governor Frederic Mishkin has
acknowledged that "opening up thefinancial system to foreign capital flows has
led to some disastrousfinancial crises causing great pain, suffering, and even
violence."
The economics profession has failed to offer anything resembling
acoherent and compelling response to currency crises. InternationalMonetary Fund
(IMF) analysts have, over the past two decades, endorsed awide variety of
national exchange-rate and monetary policy regimes thathave subsequently
collapsed in failure. They have fingered numerousculprits, from loose fiscal
policy and poor bank regulation to badindustrial policy and official corruption.
The financial-crisisliterature has yielded policy recommendations so exquisitely
hedged andwidely contradicted as to be practically useless.
Antiglobalization economists have turned the problem on its head byabsolving
governments (except the one in Washington) and instead blamingcrises on markets
and their institutional supporters, such as the IMF --"dictatorships of
international finance," in the words of the Nobellaureate Joseph Stiglitz.
"Countries are effectively told that if theydon't follow certain conditions, the
capital markets or the IMF willrefuse to lend them money," writes Stiglitz.
"They are basically forcedto give up part of their sovereignty."
Is this
right? Are markets failing, and will restoring lost sovereigntyto governments
put an end to financial instability? This is a dangerousmisdiagnosis. In fact,
capital flows became destabilizing only aftercountries began asserting
"sovereignty" over money -- detaching it fromgold or anything else considered
real wealth. Moreover, even if themarch of globalization is not inevitable, the
world economy and theinternational financial system have evolved in such a way
that there isno longer a viable model for economic development outside of them.
The right course is not to return to a mythical past of monetarysovereignty,
with governments controlling local interest and exchangerates in blissful
ignorance of the rest of the world. Governments mustlet go of the fatal notion
that nationhood requires them to make andcontrol the money used in their
territory. National currencies andglobal markets simply do not mix; together
they make a deadly brew ofcurrency crises and geopolitical tension and create
ready pretexts fordamaging protectionism. In order to globalize safely,
countries shouldabandon monetary nationalism and abolish unwanted currencies,
the sourceof much of today's instability.
THE GOLDEN AGE
Capital flows
were enormous, even by contemporary standards, during thelast great period of
"globalization," from the late nineteenth centuryto the outbreak of World War I.
Currency crises occurred during thisperiod, but they were generally shallow and
short-lived. That is becausemoney was then -- as it has been throughout most of
the world and mostof human history -- gold, or at least a credible claim on
gold. Fundsflowed quickly back to crisis countries because of confidence that
thegold link would be restored. At the time, monetary nationalism wasconsidered
a sign of backwardness, adherence to a universallyacknowledged standard of value
a mark of civilization. Those nationsthat adhered most reliably (such as
Australia, Canada, and the UnitedStates) were rewarded with the lowest
international borrowing rates.Those that adhered the least (such as Argentina,
Brazil, and Chile) werepunished with the highest.
This bond was fatally
severed during the period between World War I andWorld War II. Most economists
in the 1930s and 1940s considered itobvious that capital flows would become
destabilizing with the end ofreliably fixed exchange rates. Friedrich Hayek
noted in a 1937 lecturethat under a credible gold-standard regime, "short-term
capitalmovements will on the whole tend to relieve the strain set up by
theoriginal cause of a temporarily adverse balance of payments. Ifexchanges,
however, are variable, the capital movements will tend towork in the same
direction as the original cause and thereby tointensify it" -- as they do today.
The belief that globalization required hard money, something foreignerswould
willingly hold, was widespread. The French economist Charles Ristobserved that
"while the theorizers are trying to persuade the publicand the various
governments that a minimum quantity of gold ... wouldsuffice to maintain
monetary confidence, and that anyhow paper currency,even fiat currency, would
amply meet all needs, the public in allcountries is busily hoarding all the
national currencies which aresupposed to be convertible into gold." This view
was hardly limited tofree marketeers. As notable a critic of the gold standard
and globalcapitalism as Karl Polanyi took it as obvious that monetary
nationalismwas incompatible with globalization. Focusing on the United
Kingdom'sinterest in growing world trade in the nineteenth century, he
arguedthat "nothing else but commodity money could serve this end for theobvious
reason that token money, whether bank or fiat, cannot circulateon foreign soil."
Yet what Polanyi considered nonsensical -- globaltrade in goods, services, and
capital intermediated by intrinsicallyworthless national paper (or "fiat")
monies -- is exactly howglobalization is advancing, ever so fitfully, today.
The political mythology associating the creation and control of moneywith
national sovereignty finds its economic counterpart in themetamorphosis of the
famous theory of "optimum currency areas" (OCA).Fathered in 1961 by Robert
Mundell, a Nobel Prize-winning economist whohas long been a prolific advocate of
shrinking the number of nationalcurrencies, it became over the subsequent
decades a quasi-scientificfoundation for monetary nationalism.
Mundell, like
most macroeconomists of the early 1960s, had a now largelydiscredited postwar
Keynesian mindset that put great faith in theability of policymakers to
fine-tune national demand in the face of whateconomists call "shocks" to supply
and demand. His seminal article, "ATheory of Optimum Currency Areas," asks the
question, "What is theappropriate domain of the currency area?" "It might seem
at first thatthe question is purely academic," he observes, "since it hardly
appearswithin the realm of political feasibility that national currencies
wouldever be abandoned in favor of any other arrangement."
Mundell goes on
to argue for flexible exchange rates between regions ofthe world, each with its
own multinational currency, rather than betweennations. The economics
profession, however, latched on to Mundell'sanalysis of the merits of flexible
exchange rates in dealing witheconomic shocks affecting different "regions or
countries" differently;they saw it as a rationale for treating existing nations
as naturalcurrency areas. Monetary nationalism thereby acquired a
rationalscientific mooring. And from then on, much of the mainstream
economicsprofession came to see deviations from "one nation, one currency"
asmisguided, at least in the absence of prior political integration.
The
link between money and nationhood having been established byeconomists (much in
the way that Aristotle and Jesus were reconciled bymedieval scholastics),
governments adopted OCA theory as the primaryintellectual defense of monetary
nationalism. Brazilian central bankershave even defended the country's monetary
independence by publiclyappealing to OCA theory -- against Mundell himself, who
spoke out on theeconomic damage that sky-high interest rates (the result of
maintainingunstable national monies that no one wants to hold) impose on
LatinAmerican countries. Indeed, much of Latin America has alreadyexperienced
"spontaneous dollarization": despite restrictions in manycountries, U.S. dollars
represent over 50 percent of bank deposits. (InUruguay, the figure is 90
percent, reflecting the appeal of Uruguay'slack of currency restrictions and its
famed bank secrecy.) Thisincreasingly global phenomenon of people rejecting
national monies as astore of wealth has no place in OCA theory.
NO TURNING
BACK
Just a few decades ago, vital foreign investment in developing
countrieswas driven by two main motivations: to extract raw materials for
exportand to gain access to local markets heavily protected againstcompetition
from imports. Attracting the first kind of investment wassimple for countries
endowed with the right natural resources.(Companies readily went into war zones
to extract oil, for example.)Governments pulled in the second kind of investment
by erecting tariffand other barriers to competition so as to compensate
foreigners for anotherwise unappealing business climate. Foreign investors
brought moneyand know-how in return for monopolies in the domestic market.
This cozy scenario was undermined by the advent of globalization.
Tradeliberalization has opened up most developing countries to imports (inreturn
for export access to developed countries), and huge declines inthe costs of
communication and transport have revolutionized theeconomics of global
production and distribution. Accordingly, thereasons for foreign companies to
invest in developing countries havechanged. The desire to extract commodities
remains, but companiesgenerally no longer need to invest for the sake of gaining
access todomestic markets. It is generally not necessary today to produce in
acountry in order to sell in it (except in large economies such as Braziland
China).
At the same time, globalization has produced a compelling new reason
toinvest in developing countries: to take advantage of lower productioncosts by
integrating local facilities into global chains of productionand distribution.
Now that markets are global rather than local,countries compete with others for
investment, and the factors definingan attractive investment climate have
changed dramatically. Countriescan no longer attract investors by protecting
them against competition;now, since protection increases the prices of goods
that foreigninvestors need as production inputs, it actually reduces
globalcompetitiveness.
In a globalizing economy, monetary stability and
access to sophisticatedfinancial services are essential components of an
attractive localinvestment climate. And in this regard, developing countries
areespecially poorly positioned.
Traditionally, governments in the
developing world exercised strictcontrol over interest rates, loan maturities,
and even the beneficiariesof credit -- all of which required severing financial
and monetary linkswith the rest of the world and tightly controlling
international capitalflows. As a result, such flows occurred mainly to settle
tradeimbalances or fund direct investments, and local financial systemsremained
weak and underdeveloped. But growth today depends more and moreon investment
decisions funded and funneled through the global financialsystem. (Borrowing in
low-cost yen to finance investments in Europewhile hedging against the yen's
rise on a U.S. futures exchange is nolonger exotic.) Thus, unrestricted and
efficient access to this globalsystem -- rather than the ability of governments
to manipulate parochialmonetary policies -- has become essential for future
economic development.
But because foreigners are often unwilling to hold the
currencies ofdeveloping countries, those countries' local financial systems end
upbeing largely isolated from the global system. Their interest rates tendto be
much higher than those in the international markets and theirlending operations
extremely short -- not longer than a few months inmost cases. As a result, many
developing countries are dependent on U.S.dollars for long-term credit. This is
what makes capital flows, howevernecessary, dangerous: in a developing country,
both locals andforeigners will sell off the local currency en masse at the
earliestwhiff of devaluation, since devaluation makes it more difficult for
thecountry to pay its foreign debts -- hence the dangerous instability oftoday's
international financial system.
Although OCA theory accounts for none of
these problems, they are graveobstacles to development in the context of
advancing globalization.Monetary nationalism in developing countries operates
against the grainof the process -- and thus makes future financial problems even
morelikely.
MONEY IN CRISIS
Why has the problem of serial currency
crises become so severe in recentdecades? It is only since 1971, when President
Richard Nixon formallyuntethered the dollar from gold, that monies flowing
around the globehave ceased to be claims on anything real. All the world's
currenciesare now pure manifestations of sovereignty conjured by governments.
Andthe vast majority of such monies are unwanted: people are unwilling tohold
them as wealth, something that will buy in the future at least whatit did in the
past. Governments can force their citizens to holdnational money by requiring
its use in transactions with the state, butforeigners, who are not thus
compelled, will choose not to do so. And ina world in which people will only
willingly hold dollars (and a handfulof other currencies) in lieu of gold money,
the mythology tying money tosovereignty is a costly and sometimes dangerous one.
Monetarynationalism is simply incompatible with globalization. It has
alwaysbeen, even if this has only become apparent since the 1970s, when allthe
world's governments rendered their currencies intrinsically worthless.
Yet,
perversely as a matter of both monetary logic and history, the mostnotable
economist critical of globalization, Stiglitz, has arguedpassionately for
monetary nationalism as the remedy for the economicchaos caused by currency
crises. When millions of people, locals andforeigners, are selling a national
currency for fear of an impendingdefault, the Stiglitz solution is for the
issuing government to simplydecouple from the world: drop interest rates,
devalue, close offfinancial flows, and stiff the lenders. It is precisely this
thinking, athrowback to the isolationism of the 1930s, that is at the root of
thecycle of crisis that has infected modern globalization.
Argentina has
become the poster child for monetary nationalists -- thosewho believe that every
country should have its own paper currency andnot waste resources hoarding gold
or hard-currency reserves. Monetarynationalists advocate capital controls to
avoid entanglement withforeign creditors. But they cannot stop there. As Hayek
emphasized inhis 1937 lecture, "exchange control designed to prevent effectively
theoutflow of capital would really have to involve a complete control offoreign
trade," since capital movements are triggered by changes in theterms of credit
on exports and imports.
Indeed, this is precisely the path that Argentina
has followed since2002, when the government abandoned its currency board, which
tried tofix the peso to the dollar without the dollars necessary to do so.
Sincewriting off $80 billion worth of its debts (75 percent in nominalterms),
the Argentine government has been resorting to ever moreintrusive means in order
to prevent its citizens from protecting whatremains of their savings and buying
from or selling to foreigners. Thecountry has gone straight back to the statist
model of economic controlthat has failed Latin America repeatedly over
generations. Thegovernment has steadily piled on more and more onerous capital
anddomestic price controls, export taxes, export bans, and limits oncitizens'
access to foreign currency. Annual inflation has neverthelessrisen to about 20
percent, prompting the government to make ham-fistedefforts to manipulate the
official price data. The economy has becomeominously dependent on soybean
production, which surged in the wake ofprice controls and export bans on cattle,
taking the country back to thepre-globalization model of reliance on a single
commodity export forhard-currency earnings. Despite many years of robust
postcrisis economicrecovery, GDP is still, in constant U.S. dollars, 26 percent
below itspeak in 1998, and the country's long-term economic future looks
asfragile as ever.
When currency crises hit, countries need dollars to pay
off creditors.That is when their governments turn to the IMF, the most
demonizedinstitutional face of globalization. The IMF has been attacked
byStiglitz and others for violating "sovereign rights" in imposingconditions in
return for loans. Yet the sort of compromises on policyautonomy that sovereign
borrowers strike today with the IMF were in thepast struck directly with foreign
governments. And in the nineteenthcentury, these compromises cut far more deeply
into national autonomy.
Historically, throughout the Balkans and Latin
America, sovereignborrowers subjected themselves to considerable foreign
control, at timesenduring what were considered to be egregious blows to
independence.Following its recognition as a state in 1832, Greece spent the rest
ofthe century under varying degrees of foreign creditor control; on theheels of
a default on its 1832 obligations, the country had its entirefinances placed
under French administration. In order to return to theinternational markets
after 1878, the country had to precommit specificrevenues from customs and state
monopolies to debt repayment. An 1887loan gave its creditors the power to create
a company that wouldsupervise the revenues committed to repayment. After a
disastrous warwith Turkey over Crete in 1897, Greece was obliged to accept a
controlcommission, comprised entirely of representatives of the major
powers,that had absolute power over the sources of revenue necessary to fundits
war debt. Greece's experience was mirrored in Bulgaria, Serbia, theOttoman
Empire, Egypt, and, of course, Argentina.
There is, in short, no age of
monetary sovereignty to return to.Countries have always borrowed, and when
offered the choice betweenpaying high interest rates to compensate for default
risk (which wastypical during the Renaissance) and paying lower interest rates
inreturn for sacrificing some autonomy over their ability to default(which was
typical in the nineteenth century), they have commonly chosenthe latter. As for
the notion that the IMF today possesses someextraordinary power over the
exchange-rate policies of borrowingcountries, this, too, is historically
inaccurate. Adherence to thenineteenth-century gold standard, with the Bank of
England at the helmof the system, severely restricted national monetary
autonomy, yetgovernments voluntarily subjected themselves to it precisely
because itmeant cheaper capital and greater trade opportunities.
THE MIGHTY
DOLLAR?
For a large, diversified economy like that of the United
States,fluctuating exchange rates are the economic equivalent of a
minortoothache. They require fillings from time to time -- in the form
ofcorporate financial hedging and active global supply management -- butnever
any major surgery. There are two reasons for this. First, much ofwhat Americans
buy from abroad can, when import prices rise, quickly andcheaply be replaced by
domestic production, and much of what they sellabroad can, when export prices
fall, be diverted to the domestic market.Second, foreigners are happy to hold
U.S. dollars as wealth.
This is not so for smaller and less advanced
economies. They depend onimports for growth, and often for sheer survival, yet
cannot pay forthem without dollars. What can they do? Reclaim the sovereignty
theyhave allegedly lost to the IMF and international markets by replacingthe
unwanted national currency with dollars (as Ecuador and El Salvadordid half a
decade ago) or euros (as Bosnia, Kosovo, and Montenegro did)and thereby end
currency crises for good. Ecuador is the shining exampleof the benefits of
dollarization: a country in constant politicalturmoil has been a bastion of
economic stability, with steady, robusteconomic growth and the lowest inflation
rate in Latin America. Nowonder its new leftist president, Rafael Correa, was
obliged to ditchhis de-dollarization campaign in order to win over the
electorate.Contrast Ecuador with the Dominican Republic, which suffered
adevastating currency crisis in 2004 -- a needless crisis, as 85 percentof its
trade is conducted with the United States (a figure comparable tothe percentage
of a typical U.S. state's trade with other U.S. states).
It is often argued
that dollarization is only feasible for smallcountries. No doubt, smallness
makes for a simpler transition. But evenBrazil's economy is less than half the
size of California's, and theU.S. Federal Reserve could accommodate the
increased demand for dollarspainlessly (and profitably) without in any way
sacrificing itscommitment to U.S. domestic price stability. An enlightened
U.S.government would actually make it politically easier and less costly formore
countries to adopt the dollar by rebating the seigniorage profitsit earns when
people hold more dollars. (To get dollars, dollarizingcountries give the Federal
Reserve interest-bearing assets, such asTreasury bonds, which the United States
would otherwise have to payinterest on.) The International Monetary Stability
Act of 2000 wouldhave made such rebates official U.S. policy, but the
legislation died inCongress, unsupported by a Clinton administration that feared
it wouldlook like a new foreign-aid program.
Polanyi was wrong when he
claimed that because people would never acceptforeign fiat money, fiat money
could never support foreign trade. Thedollar has emerged as just such a global
money. This phenomenon wasactually foreseen by the brilliant German philosopher
and sociologistGeorg Simmel in 1900. He surmised:
"Expanding economic
relations eventually produce in the enlarged, andfinally international, circle
the same features that originallycharacterized only closed groups; economic and
legal conditions overcomethe spatial separation more and more, and they come to
operate just asreliably, precisely and predictably over a great distance as they
didpreviously in local communities. To the extent that this happens, thepledge,
that is the intrinsic value of the money, can be reduced. ...Even though we are
still far from having a close and reliablerelationship within or between
nations, the trend is undoubtedly in thatdirection."
But the dollar's
privileged status as today's global money is notheaven-bestowed. The dollar is
ultimately just another money supportedonly by faith that others will willingly
accept it in the future inreturn for the same sort of valuable things it bought
in the past. Thisputs a great burden on the institutions of the U.S. government
tovalidate that faith. And those institutions, unfortunately, are failingto
shoulder that burden. Reckless U.S. fiscal policy is undermining thedollar's
position even as the currency's role as a global money isexpanding.
Four
decades ago, the renowned French economist Jacques Rueff, writingjust a few
years before the collapse of the Bretton Woods dollar-basedgold-exchange
standard, argued that the system "attains such a degree ofabsurdity that no
human brain having the power to reason can defend it."The precariousness of the
dollar's position today is similar. The UnitedStates can run a chronic
balance-of-payments deficit and never feel theeffects. Dollars sent abroad
immediately come home in the form of loans,as dollars are of no use abroad. "If
I had an agreement with my tailorthat whatever money I pay him he returns to me
the very same day as aloan," Rueff explained by way of analogy, "I would have no
objection atall to ordering more suits from him."
With the U.S. current
account deficit running at an enormous 6.6 percentof GDP (about $2 billion a day
must be imported to sustain it), theUnited States is in the fortunate position
of the suit buyer with aChinese tailor who instantaneously returns his payments
in the form ofloans -- generally, in the U.S. case, as purchases of U.S.
Treasurybonds. The current account deficit is partially fueled by the
budgetdeficit (a dollar more of the latter yields about 20-50 cents more ofthe
former), which will soar in the next decade in the absence ofreforms to curtail
federal "entitlement" spending on medical care andretirement benefits for a
longer-living population. The United States --and, indeed, its Chinese tailor --
must therefore be concerned with thesustainability of what Rueff called an
"absurdity." In the absence oflong-term fiscal prudence, the United States risks
undermining the faithforeigners have placed in its management of the dollar --
that is, theirbelief that the U.S. government can continue to sustain low
inflationwithout having to resort to growth-crushing interest-rate hikes as
ameans of ensuring continued high capital inflows.
PRIVATIZING MONEY
It
is widely assumed that the natural alternative to the dollar as aglobal currency
is the euro. Faith in the euro's endurance, however, isstill fragile --
undermined by the same fiscal concerns that afflict thedollar but with the added
angst stemming from concerns about thetemptations faced by Italy and others to
return to monetary nationalism.But there is another alternative, the world's
most enduring form ofmoney: gold.
It must be stressed that a well-managed
fiat money system hasconsiderable advantages over a commodity-based one, not
least of whichthat it does not waste valuable resources. There is little to
commend indigging up gold in South Africa just to bury it again in Fort Knox.
Thequestion is how long such a well-managed fiat system can endure in theUnited
States. The historical record of national monies, going back over2,500 years, is
by and large awful.
At the turn of the twentieth century -- the height of
the gold standard-- Simmel commented, "Although money with no intrinsic value
would bethe best means of exchange in an ideal social order, until that point
isreached the most satisfactory form of money may be that which is boundto a
material substance." Today, with money no longer bound to anymaterial substance,
it is worth asking whether the world evenapproximates the "ideal social order"
that could sustain a fiat dollaras the foundation of the global financial
system. There is no wayeffectively to insure against the unwinding of global
imbalances shouldChina, with over a trillion dollars of reserves, and other
countrieswith dollar-rich central banks come to fear the unbearable lightness
oftheir holdings.
So what about gold? A revived gold standard is out of the
question. Inthe nineteenth century, governments spent less than ten percent
ofnational income in a given year. Today, they routinely spend half ormore, and
so they would never subordinate spending to the stringentrequirements of
sustaining a commodity-based monetary system. Butprivate gold banks already
exist, allowing account holders to makeinternational payments in the form of
shares in actual gold bars.Although clearly a niche business at present, gold
banking has growndramatically in recent years, in tandem with the dollar's
decline. A newgold-based international monetary system surely sounds
far-fetched. Butso, in 1900, did a monetary system without gold. Modern
technology makesa revival of gold money, through private gold banks, possible
evenwithout government support.
COMMON CURRENCIES
Virtually every major
argument recently leveled against globalizationhas been leveled against markets
generally (and, in turn, debunked) forhundreds of years. But the argument
against capital flows in a worldwith 150 fluctuating national fiat monies is
fundamentally different. Itis highly compelling -- so much so that even
globalization's staunchestsupporters treat capital flows as an exception, a
matter to beintellectually quarantined until effective crisis inoculations can
bedeveloped. But the notion that capital flows are inherentlydestabilizing is
logically and historically false. The lessons ofgold-based globalization in the
nineteenth century simply must berelearned. Just as the prodigious daily capital
flows between New Yorkand California, two of the world's 12 largest economies,
are souneventful that no one even notices them, capital flows betweencountries
sharing a single currency, such as the dollar or the euro,attract not the
slightest attention from even the most passionateantiglobalization activists.
Countries whose currencies remain unwanted by foreigners will continueto
experiment with crisis-prevention policies, imposing capital controlsand
building up war chests of dollar reserves. Few will repeatArgentina's misguided
efforts to fix a dollar exchange rate without thedollars to do so. If these
policies keep the IMF bored for a few moreyears, they will be for the good.
But the world can do better. Since economic development outside theprocess
of globalization is no longer possible, countries should abandonmonetary
nationalism. Governments should replace national currencieswith the dollar or
the euro or, in the case of Asia, collaborate toproduce a new multinational
currency over a comparably large andeconomically diversified area.
Europeans
used to say that being a country required having a nationalairline, a stock
exchange, and a currency. Today, no European country isany worse off without
them. Even grumpy Italy has benefited enormouslyfrom the lower interest rates
and permanent end to lira speculation thataccompanied its adoption of the euro.
A future pan-Asian currency,managed according to the same principle of targeting
low and stableinflation, would represent the most promising way for China to
fullyliberalize its financial and capital markets without fear of
damagingrenminbi speculation (the Chinese economy is only the size
ofCalifornia's and Florida's combined). Most of the world's smaller andpoorer
countries would clearly be best off unilaterally adopting thedollar or the euro,
which would enable their safe and rapid integrationinto global financial
markets. Latin American countries shoulddollarize; eastern European countries
and Turkey, euroize. Broadlyspeaking, this prescription follows from relative
trade flows, but thereare exceptions; Argentina, for example, does more eurozone
than U.S.trade, but Argentines think and save in dollars.
Of course,
dollarizing countries must give up independent monetarypolicy as a tool of
government macroeconomic management. But since theHoly Grail of monetary policy
is to get interest rates down to thelowest level consistent with low and stable
inflation, an argumentagainst dollarization on this ground is, for most of the
world,frivolous. How many Latin American countries can cut interest ratesbelow
those in the United States? The average inflation-adjusted lendingrate in Latin
America is about 20 percent. One must therefore ask whatpossible boon to the
national economy developing-country central bankscan hope to achieve from the
ability to guide nominal local rates up anddown on a discretionary basis. It is
like choosing a Hyundai with manualtransmission over a Lexus with automatic: the
former gives the drivermore control but at the cost of inferior performance
under any condition.
As for the United States, it needs to perpetuate the
sound moneypolicies of former Federal Reserve Chairs Paul Volcker and
AlanGreenspan and return to long-term fiscal discipline. This is the onlysure
way to keep the United States' foreign tailors, with their massiveand growing
holdings of dollar debt, feeling wealthy and secure. It isthe market that made
the dollar into global money -- and what the marketgiveth, the market can taketh
away. If the tailors balk and the dollarfails, the market may privatize money on
its own.
