Full Text

Last November, the U.S. Federal Reserve embarked on a second round of a type of monetary stimulus known as quantitative easing. The central bank declared that it would buy $600 billion in long-term Treasury bonds in an attempt to push down long-term interest rates. Immediately after the move, the rest of the world accused the United States of deliberately attempting to depreciate the dollar. However, Washington was not alone in apparently trying to influence its currency's value. China has continued to hold the yuan relatively stable against the dollar, even though many economists believe that the fair value of the Chinese currency is considerably higher. Last September, Japan intervened in the exchange markets to prevent the yen from rising too quickly, and many emerging-market countries have used a mix of similar interventions and capital controls to keep their own currencies from appreciating. Intervention is a zero-sum game: for one country's currency to depreciate, some other countries' currencies must appreciate. Are the same type of senseless beggar-thy-neighbor currency depreciations as those of the 1930s, when many countries tried to depreciate in a race to the bottom, just around the corner? Thankfully, probably not. Today's jockeying over exchange rates has several important differences from that of the Great Depression years. Most countries today are not trying to gain a short-term advantage through currency actions; instead, they are following domestic economic policy strategies that have allowed them to grow easily in the past. For developed countries such as the United States, this has meant an emphasis on consumption; strategies in China and other emerging markets, meanwhile, have emphasized exports. Taken together, these strategies have led to significant trade imbalances around the world, even before the recent crisis. Sustained trade imbalances, in turn, seem to lead to financial and political instability, making them quite dangerous in the long run. However, unless the domestic policy strategies change dramatically, these imbalances will likely persist. Global economic stability, therefore, is not dependent on some grand agreement among countries -- if you allow your currency to appreciate, I will rein in my fiscal deficit -- which unfortunately seems to be the focus of recent economic summits.