Resolving global imbalances aka currency manipulation

The Obama administration is increasingly signalling that the US will not continue to be the world’s consumer and importer of last resort. The clearest statements came last month from Larry Summers, White House economics director, in a speech at the Peterson Institute for International Economics and in an interview with the Financial Times. The US, he said, must become an export-oriented rather than a consumption-based economy and must rely on real engineering rather than financial wizardry.

This long-run vision for US growth entails greater exports and probably a smaller current account deficit than where it is now (about 3 per cent of gross domestic product). Although Mr Summers did not and could not say so, the vision will require an end to the remaining overvaluation of the dollar.

Put starkly, Mr Summers has stated that China can no longer behave like China because the US intends to behave much more like China. The world economy cannot have two, or even one-and-a-half, Chinese growth strategies from its two most important economies. Which will prevail? (via Fred Bergsten & Arvind Subramanian: Resolving global imbalances).

In the last 50 years, the US dollar has swung from being grossly overvalued to slightly overvalued. The inertia of the Bretton Woods system has kept this overvaluation going. How has this benefitted the US?

It has allowed the US to use its overvalued (and over-printed) currency to vast tracts of world economy. And now having captured these segments of the world economy (especially raw material sources), with an undervalued currency, it will achieve two objectives.

The US is in no position to pay off its nearly US$4 trillion, it owes the Rest of the World - equal to about 1 years GDP (my estimate, in PPP terms). This kind of dollar devaluation does three things at one stroke.

One - It reduces the real value of its debt. The Chinese, the Rest of BRICS and the Others need to be paid a lot less in the future. (as pointed out earlier in various posts linked here.) Two - It makes US exports artificially competitive. (as pointed out earlier in linked posts). Three - The US competitiveness will be anchored to assets purchased with over-valued dollars.

Readers can take courage from the fact that each such 'process' gives the US lesser returns and fewer options. The Law of Diminishing Marginal Utility. Or in plain language 'crying wolf' often never paid off.

But the smart answer is to go out and buy one kilgram of gold. If each reader of Quicktake and 2ndlook blogs were to do this, the world would become a safer and faier world in the next 10-20 years.

Swear!