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Fri 10th September, 2010
News
The “Where do we all go from here” dollar debate |
26th May 2005 |
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The key debate is not about the exact value of the dollar against other currencies but rather of the sustainability of the US economy’s position in the global economy. The main question is whether or not the American economy can maintain its position of global pre-eminence when it is so deeply in hock to the rest of the world? If the world loses confidence in America’s ability to play its leadership role, the dollar is likely to take a beating. Although there are many imbalances in the world economy, the key one is between America and Asia. In short, the US appears pre-occupied with consumption while Asia is focused on production. America is consuming more than can be justified by its output and as a result it is borrowing from Asian central banks to finance its purchase of Asian goods. The US remains a substantial producer and Asia is fast becoming important as a consumer. But the world economy is lopsided to an unprecedented extent and whether the imbalance can be corrected peacefully, or some kind of traumatic correction is necessary, is at the core of the debate.
On one hand there is the “classical school” with its basic argument that the lopsided economic relationship between America and the rest of the world is unsustainable. The longer it is maintained, the more likely it is that a painful adjustment will follow. On the other hand there is the “revisionist school” which focuses on what it sees as the dynamism of the American economy and advocates that an adjustment is possible without significant pain for the global economy. If there were a culprit in relation to the contemporary imbalances it is, revisionists would argue, the excess savings of foreigners rather than the excessive consumption of Americans. For one thing, it is wrong to compare America’s imbalances with those of any other country. As the world’s largest economic and political power the US can get away with things that other countries cannot. The Asian countries, for instance, have a strong incentive to prop up the American economy, as it is a key market for their goods.
The dollar is unlike any other currency and it is the closest the world comes, in an age of nation states, to a global currency. For instance, natural resources tend to be priced in dollars when they are involved in international trade and a high proportion of the official reserves of many countries are held in dollars. There are therefore many players with more than an active interest in maintaining the value of the dollar, or at the very least protecting it from a serious fall. America is essentially paying for this growth by getting into debt with the rest of the world and cheap money has made it easier for US consumers to buy foreign goods. As America repays its debt in the future it is likely, in effect, to have to pay back some of its growth to the rest of the world. It’s also important to appreciate that America’s decline is relative as in absolute terms the US economy is bigger than ever. America is wealthier and it produces more than at any time in history.
The decline is in the size of the American economy compared with the rest of the world and as a consequence, it might make it less able to shape the global economy around its interests. Those with long memories may recall that back in the late 1980s the overwhelming consensus of opinion was for Japan superseding America as the world’s pre-eminent economy. Back then the expectations were that Japan would become the world’s largest economy sometime early in the first decade of the 21st century, just about now in fact. However, clearly such expectations were not realized and today the American economy is still about three times the size of Japan. Perhaps it is Japan’s failure that helps to explain the lack of debate on America’s decline. Without any clear rising world power, there is less focus for the discussion on America’s relative weakness and the demise of the Soviet Union has further contributed to reinforce America’s position as the undisputed largest political and military force.
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