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CURRENCY WARS: YESTERDAY, TODAY – AND TOMORROW?. Benjamin J. Cohen University of California, Santa Barbara Remarks prepared for the Conference on “ The Political Economy of International Money” Federal Reserve Bank of Dallas, 4 April 2014. THE POLITICS OF EXCHANGE RATES.

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currency wars yesterday today and tomorrow

CURRENCY WARS: YESTERDAY, TODAY – AND TOMORROW?

Benjamin J. Cohen

University of California, Santa Barbara

Remarks prepared for the Conference on “The Political Economy of International Money”

Federal Reserve Bank of Dallas, 4 April 2014

the politics of exchange rates
THE POLITICS OF EXCHANGE RATES
  • What are the lessons from the Great Depression about the management of currency values?
  • Conventional wisdom at the time: “the proved disadvantages of freely fluctuating exchanges” (International Currency Experience, 1944). Exchange rates would have to be managed, subject to rules
two questions
TWO QUESTIONS
  • 1. Was the conventional wisdom right? (That is, was the correct lesson drawn?)
    • Answer: a qualified Yes
  • 2. Has successfully has the lesson been implemented? (That is have exchange rates been managed well?)
    • Answer: not very well, in part because another important lesson was forgotten
1 was the conventional wisdom right
1. WAS THE CONVENTIONAL WISDOM RIGHT?
  • There is no doubt that “freely fluctuating exchanges” invited competitive depreciations – in effect, currency war
    • From 1930 to 1938, 20 countries devalued by more than 10 %, some several times
  • Some evidence that depreciations may have been to some extent beneficial, by allowing less restrictive monetary policy (Eichengreen and Sachs, 1985)
  • But also no doubt that they were disorderly and disruptive
  • Legitimate conclusion: need some kind of rules to prevent currency wars
2 how successfully has the lesson beem implemented
2. HOW SUCCESSFULLY HAS THE LESSON BEEM IMPLEMENTED?
  • Short answer: not very well. Hence much talk of currency wars today
  • Longer answer: a series of attempts to implement effective rules, but with little success. Most notable:
    • Bretton Woods (1944)
    • Committee of Twenty (1972-74)
    • Second Amendment (1976)
bretton woods
BRETTON WOODS
  • Floating was to be discouraged; but there was also a fear of too much rigidity
  • Hence a compromise: the par value system, meant to provide stability but also allow for adjustments in specific circumstances (“fundamental disequilibrium”)
  • Ultimately proved unworkable (What is a “fundamental disequilibrium?”)
committee of twenty
COMMITTEE OF TWENTY
  • Called for a new “exchange rate regime based on stable but adjustable par values”
  • Proved unacceptable – overtaken by events
second amendment
SECOND AMENDMENT
  • New Article IV
    • Free choice of exchange rate policies, subject only to:
      • admonition to “avoid manipulating exchange rates… to gain an unfair competitive advantage”
      • “firm surveillance” by the IMF
  • These are the prevailing rules today
how well have the rules worked
HOW WELL HAVE THE RULES WORKED?
  • The IMF has tried hard
    • As early as 1977, the Fund specified principles for the exercise of surveillance
    • Article IV consultations were instituted
    • Principles for surveillance were updated in 2007
  • But governments have resisted oversight; dirty floats have become increasingly prevalent; talk of currency wars is not exaggerated
why have the rules not worked
WHY HAVE THE RULES NOT WORKED?
  • General issue: state sovereignty (resistance to supranational authority)
  • More specific issue: Geopolitics
    • A forgotten lesson of the Great Depression: the Tripartite Agreement of 1936 highlighted the importance of consensus among the major powers of the day; acknowledgement of mutual responsibility for systemic management.
  • Is a modern version of the Tripartite Agreement possible today?
    • Unlikely
conclusion
CONCLUSION
  • Lessons have been learned, but selectively and imperfectly.
  • George Santayana said: “Those who cannot remember the past are condemned to repeat it.”
  • Are we condemned to repeat the currency wars of the 1930s?
  • Not impossible…