With all the doings in the Middle East, it's easy to miss developments elsewhere. Let's take a look at Eastern Europe, shall we? Like Belarus, in which the latest developments suggest a uniquely Belarusian path to misery.
The Financial Times' Jan Cienski notes that Greece and Portugal aren't the only European countries looking for a bailout:
Away from frantic negotiations over how to save Portugal and Greece, another peripheral European country is scrambling for a bail-out. But Belarus is looking not to the European Union or the International Monetary Fund but to a grouping of ex-Soviet republics led by Russia.
Vladimir Putin, Russia’s prime minister, flew to Minsk on Thursday to offer Belarus about $3bn in loans over three years from the Eurasian Economic Community, in return for undertaking economic reforms and privatising state companies – which could see Russia take controlling stakes in strategic assets such as oil refineries and pipelines.
“It will help to improve investor sentiment,” said Anastasiya Golovach, an analyst with Renaissance Capital. “But Belarus will definitely have to pay something for this and Beltransgaz [operator of the east-west pipeline shipping Russian natural gas to the EU] will be the price.”
Moscow is relishing Alexander Lukashenko’s discomfort, as the authoritarian leader of Belarus, who has long had a prickly relationship with Russia, endeavours to calm the growing panic surrounding the Belarusian economy.
Belarus has plunged into a balance of payments crisis, with the current account deficit soaring to 16 per cent of gross domestic product and currency reserves dwindling to a month of import cover. The central bank has introduced multiple exchange rates, seeing a collapse in the rouble’s black market rate....
The outlook is gloomy. “We are heading in the direction of Zimbabwe here,” said a foreign diplomat stationed in Minsk.
Note to the Belarusian government: anytime your country is compared to Zimbabwe, you are in Very Big Trouble.
As the article notes, Lukashenko has managed to box himself into a corner. After flirting with the West for a time, a domestic crackdown that intensified in December of last year alienated Germany and the United States, leaving Russia as Lukashenko's only lifeline.
Russia is, not surprisingly, exploiting the situation in a manner remarkably consistent with trends I wrote about in The Sanctions Paradox oh so many years ago. As a scholar, it's always nice to see a model demonstrate its durability. In this case, there's the added frisson of seeing Russia tell others to enact policies that Moscow steadfastly rejected about a decade ago in order to advance Russian interests. And there's something oddly comforting about watching Belarus continue to make policy misstep after policy misstep -- it's the IR equivalent of rooting for the San Diego Clippers.
The downsides are that it prolongs Belarusian misery -- and makes the Visegrad states just a wee bit more jittery.
Your humble blogger has not been
contributing to the Osama-a-thon here at FP blogging all that much, because he was busy being a moosehead attending the 2011 Estoril Conference. Many Important topics were covered at this conference, including:
1) The eurozone crisis;
2) The global governance crisis;
3) The crisis in the Middle East;
4) Other global security challenges;
5) The life and times of Larry King.
It was that kind of conclave.
Actually, that really doesn't do it justice. Here's a link to the opening video. Even that doesn't do it justice -- the opening ceremonies featured a sporano suspended 50 feet in the air, a gospel choir, a drum corps, and what I can only assume are the backup dancers for Lady Gaga's music videos.
For a rundown of what the Big Cheeses said at the conference, check out my Twitter feed. The major substantive takeaway I got from the conference is that Portugal would like to do a serious hurt dance on Fitch, Moody's, and Standard & Poor. Half of the conference presenters were Portuguese, and most of the audience was as well. Here is a sampling of the questions the Portuguese asked anyone talking about anything remotely related to economics:
"Why do the bond rating agencies still influence markets after they failed so badly in 2008?"
"Shouldn't the bond-rating agencies be punished for their malfeasance last decade?"
"Aren't the bond-rating agencies to blame for everything bad that has happened since 2008?"
"What do you think of the idea of creating a European standard-ratings agency?"
"Say, has anyone thought about taking the heads of the bond-rating agencies and putting them in a duffel bag?"
OK, I made that last one up, but not the others.
Obviously, the Portuguese have very good reasons to be stressed out. And the bond-rating agencies deserrve an awful amount of flack. Still, the idea that they -- and they alone -- triggered both the 2008 financial crisis and Europe's sovereign debt crisis is absurd. They are far more the symptom than the cause of the crisis.
More blogging after
my eyes adjust to not seeing Lady Gaga's backup dancers everywhere I turn the weekend.
Last week Reuters' Emily Flitter filed quite the story, entitled "China flexed its muscles using U.S. Treasuries ," about China's financial power over the United States. Here's the opening:
Confidential diplomatic cables from the U.S. embassies in Beijing and Hong Kong lay bare China's growing influence as America's largest creditor.
As the U.S. Federal Reserve grappled with the aftershocks of financial crisis, the Chinese, like many others, suffered huge losses from their investments in American financial firms -- from Lehman Brothers to the Primary Reserve Fund, the money market fund that broke the buck.
The cables, obtained by WikiLeaks, show that escalating Chinese pressure prompted a procession of soothing visits from the U.S.Treasury Department. In one striking instance, a top Chinese money manager directly asked U.S. Treasury Secretary Timothy Geithner for a favor.
This story generated a lot of interest across the mediasphere. FT Alphaville called it "Diplomacy by US Treasuries." AFP reports that the "sensitive cables show just how much influence Beijing has and how keen Washington is to address its rival's concerns."
As someone who's published on this question, you'd think I'd be very happy at the attention this issue is receiving. And Flitter deserves kudos for going through the cables to find clear efforts by Chinese officials to use its financial muscle to get what it wanted from the United States.
The thing is, the reportage is framed to suggest that China not only asked for concessions, but the United States granted them. And Flitter's own story suggests that very little in the way of concessions actually happened.
Here are the portions of Flitter's story that discusses U.S. responses to Chinese pressure:
On Chinese requests to halt/restrict arms sales to Taiwan: Flitter records no response. These concerns were voiced in late 2008 and the arms sales went ahead in early 2010, so there doesn't appear to be much influence here. AFP suggests that this pressure led the U.S. to not sell F-16's to Taiwan, but I don't think that option was ever in the cards.
On Chinese demands that they be provided guarantees for Chinese re-entry into the U.S. repo market:
The U.S. government does not appear to have offered the Chinese a special setup guaranteeing U.S. banks. Instead, the cables show, American diplomats reassured the Chinese by pointing out that Washington had infused banks' balance sheets with $700 billion in fresh capital, effectively propping up the banking system.
On Chinese demands for providing explicit U.S. government guarantees of Fannie Mae and Freddie Mac debt:
To defuse the situation, the Treasury Department sent Undersecretary for International Affairs David McCormick to Beijing for two days in October 2008. The gesture went over well.
"All of Undersecretary McCormick's counterparts appeared to appreciate his willingness to come to Beijing in the midst of a financial crisis," Piccuta wrote in a cable dated October 29, 2008. "Interlocutors stressed that unless leaders' concerns about the viability of banks and U.S. government-sponsored enterprises (GSEs) are assuaged, lower-level officials will be constrained from taking on greater counter-party risks."
The cables show McCormick trying to reassure the Chinese. "In each meeting, Undersecretary McCormick emphasized that even though the U.S. government did not explicitly guarantee GSE debt, it effectively did so by committing to inject up to $100 billion of equity in each institution to avoid insolvency and that this contractual commitment would remain for the life of these institutions," [Deputy Chief of Mission at the U.S. Embassy in Beijing Dan] Piccuta wrote.
On Chinese protests regarding Federal Reserve purchases of Treasuries and agencies in March 2009: Flitter has no response, though the fact that the Fed went ahead with QE2 suggersts that Chinese pressure didn't deter the Federal Reserve.
On responses to Chinese requests that CIC be allowed to participate in bidding on Morgan Stanley's new equity issuance:
There's no record in the cable of how Geithner responded, but it was only a day later, on June 3, that CIC announced plans to purchase $1.2 billion in Morgan Stanley shares.
A spokesperson for the Fed said in the instance of the June 3 CIC investment, no application for an exemption was made to the Federal Reserve Board.
On the general dynamic of Chinese financial pressure:
The cables also indicate a high level of confidence among the Americans that China can't entirely stop buying U.S. debt, a sentiment shared by most economists who describe the dynamic as a form of mutually assured financial destruction.
So, to sum up, the Chinese maybe got a small break on being able to particupate in the Morgan Stanley auction. Beyond that, all of these efforts led to the dilomatiic equivalent of hand-holding and not much else. And, hey, what do you know, that's pretty much consistent with what I wrote about this back in late 2009. So, contrary to some deep-seated fears of mine, the Wikiliaks cables appears to buttress rather than contradict prior scholarship.
Flitter deserves credit for making explicit what had only been inferred, but I'm worried that commentators are drawing the wrong lessons from her article. The big reveal here is not that China tried to exercise its financial muscle. The big reveal is that these efforts generated next to nothing in the way of U.S. concessions. China's financial might does give it the ability to deter U.S. pressure -- but to China's growing frustration, it doesn't yield much else.
Your humble blogger is taking a brief break from teaching and
zombie book-whoring publicizing recently-released research to start work on new research. This requires me to be in Europe for the week. So, for some local color, it's worth asking how things are in the land of the euro, the eurozone, and the eurocracy.
Last year, during the epth of the Greek crisis, I argued that, "When going backwards isn't an option, and muddling through is no longer viable, the only thing left to do is move further along the integration project."
Last week, it seemed that France and Germany had come to the same conclusion. The Guardian's John Palmer provided a cogent summary on the deal that was being negotiated at Friday's European leaders' summit:
Angela Merkel, Nicolas Sarkozy and the other EU chiefs will sound out the parameters of a breakthrough deal which could take the euro area – at the heart of the EU – towards a de facto economic government. The deal will offer massive financial support for countries under the currency market cosh in return for governments accepting that national economic policy in future will first have to secure the broad approval of the rest of the euro area.
[You must be feeling sooooo vindicated right now!!--ed.] Oh, you betcha, got this one right on the money... wait, what's this Financial Times story by Peggy Hollinger and Peter Spiegel saying?
New cracks emerged at a summit of European leaders on Friday, as the prime ministers of several countries raised strong objections to a Franco-German plan that would commit all 17 users of the single currency to co-ordinating their economic policies....
[T]heir initiative triggered a backlash from other European Union leaders anxious to defend their national economic, labour and welfare policies.
In the summit’s concluding communiqué, European leaders also appeared to back off a commitment to give the eurozone’s €440bn bail-out fund new tools to help shore up struggling “peripheral” economies.
An initial version of the conclusions committed the EU to giving the fund more “flexibility” – a code word for new authorities such as buying sovereign bonds of struggling countries on the open market. After extensive debate, that language was taken out, however, and now only binds members to give the fund “necessary effectiveness”, a clear watering-down.
What happened? The Wall Street Journal's Irwin Stelzer explains:
Most countries profess broad agreement of the need for reforms along the lines Germany is demanding. Yet when confronted with the German-French package—the French have always favored some form of centralized economic management of the EU, including strict regulation and heavy taxation of the financial services sector that is centered in Britain—they balked.
Austria, with one of the lowest effective retirement ages in the euro zone, won't go along with an increase in the retirement age. Portugal won't buy into the end of wage indexation with inflation because it wants to offer a sop to public-sector workers whose wages have been cut by 5%. Neither will Belgium, Spain and Luxembourg. All in all, almost 20 countries at Friday's EU summit objected to the Germanization of their countries for one reason or another. So Germany refused to sign on to an increase in the size of the euro-zone bailout fund. "It was truly a surreal summit," commented Yves Leterme, Belgium's prime minister.
Stezler goes on to predict that there will be yet more Euro-muddling as a result of this deadlock. I'm sticking to my original prediction, however. As much as the European periphery dislikes the proposed grand bargain, some form of it will likely be accepted because the alternative outcomes seem even more unappetizing.
According to Bloomberg, Brazilian Finance Minister Guido Mantega would like the real to stop appreciating and for the rest of the world to cooperate on currency matters:
Brazil's real dropped the most in two weeks after Finance Minister Guido Mantega raised taxes on foreign inflows for the second time this month to prevent appreciation and protect exports from what he called a global "currency war."
Brazil, Latin America’s largest economy, raised the so- called IOF tax on foreigners' investments in fixed-income securities to 6 percent from 4 percent. It also boosted the levy on money brought into the country to make margin deposits for transactions in the futures market to 6 percent from 0.38 percent…
"This currency war needs to be deactivated," Mantega told reporters. "We have to reach some kind of currency agreement.” …
Mantega cited the Plaza Accord of 1985, when governments agreed to intervene to devalue the U.S. dollar against the yen and the German deutsche mark, as the kind of agreement that might be required. International policy makers failed to narrow their differences on intervention in currency markets during the International Monetary Fund’s annual meeting this month.
Hey, you know, I bet the G-20 would be a decent forum for Mantega to foster this kind of cooperation. It's a good thing that there's a G-20 Finance Ministers meeting this weekend in Seoul.
Brazilian Finance Minister Guido Mantega will not attend a meeting of Group of 20 member-country finance officials in South Korea this week, a Finance Ministry spokesman said Monday.
The spokesman said Mantega would remain in Brazil while the government studies possible introduction of foreign exchange policy measures to curb the strengthening of the country's currency, the real.
Brazil's government will be represented at the meeting by Finance Ministry International Affairs Secretary Marcos Galvao and Central Bank International Affairs Director Luiz Pereira.
Is this rank hypocrisy by Mantega? Not entirely. It's something worse -- a judgment by Brazil's policy principals that more will be accomplished by staying in Brasilia to stem the tide of inward capital flows than to go to Seoul to seek a multilateral solution to the current lack of macroeconomic policy coordination.
There's plenty of blame to go around on this, but if Brazil thinks the G-20 is not going to accomplish much… then the G-20 is a dead forum walking.
Europe's debt crisis is not going away anytime soon, which means that the crisis over European monetary union won't be going away either. As it turns out, the European Commission is on this, proposing things like "excessive deficit procedures" and the like.
Will this work? Well … let's go to the Economist's explanation for why the previous set of rules failed to prevent this from happening:
The “stability and growth pact” was supposed to limit each country’s budget deficit to 3% of gdp and public debt to 60% of GDP. It failed, in part because France and Germany refused to abide by it -- and even rewrote the rules when they breached the deficit limit.
In contrast, the problems that arose because different economies responded differently to the zone’s common monetary policy were underestimated. The sudden drop in real interest rates on joining the euro in Greece, Ireland and Spain fuelled huge spending booms. (Portugal had enjoyed its growth spurt in the late 1990s in anticipation of euro membership.) Rampant domestic demand pushed up unit-wage costs relative to those in the rest of the euro area, notably in Germany, hurting export competitiveness and producing big current-account deficits.
The euro allowed these internal imbalances to grow unchecked and now stands in the way of a speedy adjustment, because euro-area countries whose wages are out of whack with their peers’ cannot devalue.
So, what is to be done? In the past, European integrationists have been quite adroit at using periods of crisis and malaise to jumpstart further integration efforts. It's possible that this could happen again.
In this case, however, integration efforts are going to be very costly. The Economist explains:
[T]here are three ways for a country to restore competitiveness: devaluation (which reduces wages relative to those in other exporting countries), wage cuts or higher productivity. In the euro area, the first option is out. The other two rely on easing job-market rules so that pay matches workers’ efficiency more closely, and workers can move freely from dying industries and firms to growing ones.
I'm thinking unions will
develop breakout nuclear capabilities aren't going to be big fans of that second option. The third option seems like the ultimate political dream, except it involves eliminating regulations that likely benefit a lot of entrenched interest groups.
Another possibility is greater fiscal centralization. The Economist is not keen on this, but that's besides the point -- as Mary Sarotte points out at Foreign Affairs, there's a Very Important Country that's not going to go along with the move:
The challenge now is governance reform, not expulsion of member states. Reverting to national currencies would drive the values of reissued southern currencies into the ground and the deutsche mark into the sky, thereby undermining Germany's export competitiveness and job market, to say nothing of the collateral damage to the European Union and the single market. The eurozone crisis should not signal the end of the euro but rather the start of a long-overdue overhaul. The idea of a European Monetary Fund, endorsed by Wolfgang Schäuble (an elder statesman from the days of German unification and now a subordinate of Merkel), faded after Merkel dismissed it but deserves broader support. Germany also needs to reconsider its calls for painful fiscal discipline on the part of the weakest countries until their economies regain footing. Ideally, but perhaps not realistically, Merkel should return to previous German form and spearhead a revision of the Maastricht Treaty, leading a fresh effort to do for political union what Kohl and Mitterrand did for monetary union.
The unlikelihood of such a move exemplifies a fundamental problem within the whole European Union: there exists a built-in tension between the lofty goals of integration and member states' collective unpreparedness to think through the consequences of their ambitious project. The great achievement of the past has been to reconcile these contradictory impulses by focusing on practical agreements. It is time to do so once again and realize that the necessary consequence of monetary union is greater political union.
In some ways, what happens from here on out will be an excellent test of whether economic interdependence really alters national incentives. As I blogged a few months ago, "When going backwards isn't an option, and muddling through is no longer viable, the only thing left to do is move further along the integration project."
Of course, the European have spent the past few months muddling through some more. Given current trends, however, that option is going to disappear sooner rather than later.
This week Japan has provoked the ire of the United States and Europe by unilaterally intervening in currency markets to depreciate the yen against other major currencies. Japanese Prime Minister Naoto Kan has responded to these criticisms by
telling the US and EU to go suck a lemon stating that further "resolute actions" would be taken on this front.
This comes on the heels of mounting U.S. frustration with China's "go-slow" policy on letting the yuan appreciate against the dollar. [What do you mean by "go slow"?--ed. Let's put it this way: the tortoise thinks that China is being pokey on this question.]
So, is this the beginning of beggar-thy-neighbor? Will other countries start intervening in foreign exchange markets to gain a competitive advantage for their export sectors?
The New York Times' Hiroko Tabuchi thinks not, because Japan can't unilaterally devalue its currency like in the old days:
It is unlikely, though, that intervention by Japan alone will sway currency markets in the long term. The global volume of foreign exchange trading has grown rapidly in recent years, which prevents intervention by a single government from countering bigger market trends.
Other countries are unlikely to help Japan’s cause, because they need to keep their own currencies weaker to bolster exports. A weak currency makes a country’s exports more competitive and increases the value of overseas earnings.
Much of the yen’s weakening came from investors selling the currency on expectations that the Japanese government would be more active in keeping the yen in check. Japan did not disclose how much it had spent in currency transactions, but dealers put the initial amount at 300 billion to 500 billion yen ($3.5 billion to $5.8 billion).
But as Switzerland found this year, a single government’s efforts to weaken its currency can prove futile. Switzerland abandoned that effort, after its central bank had lost more than 14 billion Swiss francs ($14 billion) in foreign currency holdings in the first half of the year, after a fall in the euro’s value ate into the bank’s reserves.
The Swiss franc is also seen by investors as a relative haven and has also strengthened amid global financial unrest. This month, the franc hit a record high against the euro.
Hmmm.... maybe. Japan's economy is much larger than Switzerland, so I'm not sure the comparison holds up. The real problem, however, appears to be that countries perceived of as "safe havens" wind up with overvalued currencies.
This little parable also makes me wonder whether we might see beggar-thy-neighbor policies in a different guise this time around. This is going to sound a little crazy, but here goes: rather than explicit exchange rate intervention, what if countries decided to play fast and loose with Basle III and other measures to strengthen financial integrity?
This really does sound crazy -- it suggests that governments would be willing to tolerate a higher risk of domestic banking collapse in order to avoide being a "safe haven" status for capital. That said, think of how much Europe benefited from the depreciation of the euro due to the Greek crisis. Basle III, by taking so long for banks to meet standards allow those countries with more insolvent financial institutions **cough** Germany **cough** to take their own sweet time in having them meet new capital adequacy standards. This would allow Germany to have the euro stay relatively cheap without abandoning its anti-inflationary zeal.
Now, in all likelihood, not even the Germans would purposefully do this. This is crazy talk. What I'm suggesting, however, is that there is more than one way for a country to have its currency depreciate, and these policies are substitutable. Looking only at explicit exchange rate intervention might be just a bit too narrow. And if more countries find more ways of keeping their currency undervalued, well then, the days of beggar-thy-neighbor would have arrived.
Political scientists have a ton of explanations for why good policy might be bad politics, and vice versa. There are limits to that perverse correlation, however. A common-sense narrative is that is a policy actually yields concerete and positive results, then it should be perceived in a more favorable light. I mean, that's pretty straightforward, right?
The Troubled Asset Relief Program is widely viewed as the original sin of the Obama administration -- though it was put together under President George W. Bush and succeeded far beyond expectations. It’s widely seen as the tipping point for disgust with elites and insiders of all kinds -- though it could also be seen as those insiders' finest moment, a successful attempt to at least partially fix their own mistakes....
"It's become demonized on the left and the right by screamers -- Glenn Beck and Rachel Maddow -- who have no interest in the facts; they’re just interested in hyperbolizing and generating attention," lamented New Hampshire Sen. Judd Gregg, a key player in guiding the measure through the upper chamber and one of the few Republicans willing to talk about TARP in positive terms.
Perhaps it’s not a coincidence that Gregg is retiring from the Senate at the end of the year -- or that hardly anyone from either party is joining him in praising TARP....
The consensus of economists and policymakers at the time of the original TARP was that the U.S. government couldn’t afford to experiment with an economic collapse. That view in mainstream economic circles has, if anything, only hardened with the program’s success in recouping the federal spending.
A study this summer by former Fed Vice Chairman Alan Blinder and Moody's chief economist Mark Zandi was representative of that consensus. They projected that without federal action -- TARP and the stimulus -- America’s gross domestic product would have fallen more than 7 percent in 2009 and almost 4 percent in 2010, compared with the actual combined decline of about 4 percent.
"It would not be surprising if the underemployment rate approached one-fourth of the labor force," they wrote of their scenario. "With outright deflation in prices and wages in 2009-11, this dark scenario constitutes a 1930s-like depression."
Despite this policy success, public attitudes towards TARP are pretty hostile. Of course, part of that is due to some ignorance over the content of TARP itself:
Polls suggest the public has only the haziest view of what TARP was. It's often conflated -- not least by politicians who voted for it and now seek to muddy the waters -- with the stimulus, a piece of policy whose supporters and foes have fallen into a much more familiar debate about the role of government and public spending....
Even Nevada GOP Senate nominee Sharron Angle at one point referred to TARP as "the stimulus." And few Americans seem to know that the banks at the center of TARP have paid the money back -- with interest.
Pollster Ann Selzer asked voters this summer, "Do you think the Troubled Asset Relief Program, known as TARP, was necessary to prevent the financial industry from failing and drastically hurting the U.S. economy, or was it an unneeded bailout?"
Fifty-eight percent of Americans said TARP was unneeded. Only 28 percent called it "necessary."
Smith is correct to point out the myriad ways in which TARP has been lumped in with the other bailouts and stimulus programs that got enacted in 2008 and 2009. No doubt the mass public would not necessarily be able to pick, choose and evaluate each individual bailout/stimulus program.
Still, it's very troubling to see a manifest policy success get almost no love whatsoever from its creators. Over the long run, good policy should translate into good politics. The failure of that to occur in this case could lead to some very perverse policy outcomes after the midterms.
I think it's safe to say that Venezuela's economy has seen better days. The government has been issuing something that looks an awful lot like food rationing cards. Now the Financial Times' Benedict Mander reports that Venezuela's new currency controls are affecting its import sector in a really sensitive area:
Unable to access enough dollars, local importers are feeling the pinch across a wide range of goods, from Scotch whisky, the nation’s favourite drink, to luxury foods and swanky cars....
Each month, whisky importers – some of the worst hit – say they can legally get only as much foreign currency as they would normally use in a day. Bars and restaurants fear the reaction when they run dry. “We’ve got enough boxes to last a few more weeks, but after that, I’m worried about what will happen,” said the manager of one bar.
The irony, of course, is that Venezuela is doing to itself what the United States has been trying to do to North Korea for years (and re-emphasized in the past few months) -- denying access to luxury goods for the elites.
Let's call these kind of measures Mad Men sanctions, shall we? Anything that embargoes sumptuous indulgences -- including alcohol, cigarettes, and Christina Hendricks -- counts as a Mad Men sanction. The question is, whether self-imposed or externally imposed, do they make a difference?
With respect to North Korea, I think the answer is pretty clearly no. This is mildly surprising. Even though I'm pretty skeptical about these kind of sanctions in general, the DPRK is one of the few countries where Mad Men sanctions truly are "smart." The North Korean elite leads a very segmented life, and making it harder to get Johnny Walker Blue affects very few average North Koreans. That said, while the North Korean elite appears to be tottering just a little, it's not because they're going into Scotch withdrawal.
Of course, there is a difference between an external actor imposing a Mad Men embargo and an internal actor screwing up the economy to the point that a petrostate needs to husband foreign exchange reserves. For IR grad students out there, it's a good test: is a regime hurt more from an externaly-created embargo or from an internally-created one?
[And what about the IR effects of Christina Hendricks?--ed. Definitely a question that begs for further research. Dibs!!--ed.]
Michael Buckner/Getty Images for Belvedere Vodka
At APSA today I attended a panel on what political scientists can offer to political journalists. Mark Schmitt, Marc Ambinder, Matt Yglesias, Mark Blumenthal, and Ezra Klein all offered interesting advice. Two messages that came through loud and clear:
1) Be willing to advertise one's research wares; and
Mr. Gorbachev, tear down these paywalls Make the research accessible to people without a JSTOR account.
So, in that spirit, let me announce that I have an article in the latest issue of International Relations of the Asia-Pacific entitled "Will Currency Follow The Flag?" It's on the future of the U.S. dollar as the world's reserve currency. The abstract:
The 2008 financial crisis and its aftermath have triggered uncertainty about the future of the dollar as the world's reserve currency. China and other countries in the Asia-Pacific region have voiced support for a new global monetary regime. There are both economic and geopolitical motivations at the root of these challenges. Going forward, what will the future hold for the international monetary system? Crudely put, will currency follow the flag?
This article addresses this question by considering the economic opportunity and geopolitical willingness of actors in the Pacific Rim to shift away from the current international monetary system – with a special emphasis on China as the most powerful actor in the region. While the dollar has shifted from being a top currency to a negotiated one, neither the opportunity nor the willingness to shift away from the dollar is particularly strong. The current window of opportunity for actors in the region to coordinate a shift in the monetary system is small and constrained. The geopolitical willingness to subordinate monetary politics to security concerns is muted.
The entire article is free for anyone to download and read. So read the whole thing, political journalists!!
Your humble blogger is back in the USA, and will be posting with gusto later today about everything he learned while in Europe.
However, I can't resist commenting quickly on Goldman Sachs' settlement with the SEC. Some financial bloggers are already describing it as a huge win for Goldman. Ordinarily, I don't like this kind of frame: settlements should be win-win, because both sides avoid litigation costs. That said, this paragraph from Sewell Chan and Louise Story's New York Times write-up did catch me short:
Though Goldman did not formally admit to the S.E.C.’s allegations, it agreed to a judicial order barring it from committing intentional fraud in the future under federal securities laws.
Really? Really?! REALLY?!
Goldman Sachs requires a judicial order to not commit intentional fraud? If that judicial order wasn't drawn up, fraud is part and parcel of Goldman Sachs' standard operating procedure? Does this mean that, prior to this settlement, defrauding customers was part of its overall corporate strategy?
I can just picture Goldman Sachs' prospectus to investors:
Goldman Sachs has become the world's most profitable institutional investor through an integrated three-part strategy:
1. Maximizing the profit opportunities from financial globalization;
2. Optimizing the core research strengths of Goldman Sachs' legendary research arm;
3. Scamming the living s**t out of investors stupid enough to think that we have ethics.
Seriously, what the f**king f**k? If this counts as a Goldman Sachs "concession," then they just pulled off the best piece of financial statecraft I've ever seen. It's almost as bad as the old Number Six.
Am I missing anything?
UPDATE: Ah, this comment by A.S. does provide some useful context for this provision. Still, writing it up as a Goldman Sachs concession seems like poor reportage.
Mark Wilson/Getty Images
So, the question of the day is, will bond markets feel suitably shocked and awed by the eurozone's decision to throw more than $950 billion at the Greece problem in order to prevent the spread of contagion?
For some reason, I can't get this scene from Dirty Harry out of my head when I think about the answer. To paraphrase it for our purposes, wouldn't this whole drama be easier if some eurozone finance minister could confront bond traders with the following speech:
I know what you're thinking. Is this my last rescue package, or do I have another source of credit in reserve? Well, to tell the truth, in all this excitement I kinda lost track myself. But being this is a €720bn rescue package, the most powerful one in the world, and would wipe away any short position you've taken in the past week, you've got to ask yourself one question. 'Do I feel lucky?' Well do you, punk?"
The thing is, Dirty Harry is a lot more convincing than Angela Merkel.
Last week Russia used some economic coercion to get a friendlier government in Kyrgyzstan. This week, Russia uses some financial inducements to secure a strategic base in Ukraine, as Roman Olearchyk and Stefan Wagstyl report for the Financial Times.
Russia on Wednesday agreed to slash gas prices to Ukraine by 30 per cent in exchange for far-reaching economic and political concessions, including a long extension of the Russian navy’s lease of a strategic Black Sea port....
Mr Yanukovich agreed to grant permission for Russia’s Black Sea Fleet to remain in Sevastopol for an additional 25-30 years – far beyond 2017 when the current lease expires.
Mr Medvedev said Russian gas giant Gazprom would grant Ukraine a 30 per cent discount on gas, bringing the price down by about $100 per 1,000 cubic meter from a current rate of just above $300. “Our Ukrainian partners will receive a discount on gas. These funds will turn into a real resource for [Ukraine’s] business and economic aims,” he said.
The deal also appeared to secure lucrative contracts for Russian companies to build two nuclear reactors in Ukraine, and preserve their roles as monopoly nuclear fuel suppliers.
So, Russia is finally getting its way in the near abroad, which is bad for the United States, right? Well, not exactly. No question, the new governments in Bishkek and Kiev are an improvement for Moscow compared to the ones installed by the color revolutions of the past decade. On the other hand, the legality of the base deal remains murky under Ukrainian law.
More importantly, these new governments are not acting in an unfriendly manner towards the United States. Kyrgyzstan's interim president Roza Otunbayeva has told Western reporters that the U.S. lease on its airbase in Kyrgyz will be extended automatically. Meanwhile, Ukrainian president Viktor Yanukovych gave Barack Obama his biggest deliverable at the Nuclear Safety Summit earlier this month when he pledged that his country would eliminate its stockpile of highly enriched uranium.
The familiar language in talking about the near abroad is whether a government is a friend of Russia or a friend of America. These governments are clearly more friendly to Russia than the previous ones, but there also appears to be no strategic loss for the United States. Which appears to be a win-win for both countries.
DMITRY KOSTYUKOV/AFP/Getty Images
There's been a spate of stories over the past few days suggesting that China is about to shift its policy on the yuan, allowing the currency to appreciate against the dollar. Keith Bradsher's latest in the New York Times has the most detail, so let's look at his story:
The Chinese government is set to announce a revision of its currency policy in the coming days that will allow greater variation in the value of its currency combined with a small but immediate jump in its value against the dollar, people with knowledge of the consensus emerging in Beijing said Thursday....
The model for the upcoming shift in currency policy is China’s move in 2005, when the leadership allowed the renminbi to jump 2 percent overnight against the dollar and then trade in a wider daily range, but with a trend toward further strengthening against the dollar. For the upcoming announcement, however, China is likely to emphasize that the value of the renminbi can fall as well as rise on any given day, so as to discourage a flood of speculative investment into China betting on rapid further appreciation, they said.
The emerging consensus within the Chinese leadership comes as Treasury Secretary Timothy F. Geithner held meetings on Thursday with senior Hong Kong officials and prepared to fly on Thursday evening to Beijing for a meeting with Vice Premier Wang Qishan.
Now, given the degree of hostility between China and the United States as late as last month, we have to ask the question: what caused the shift in China's policy? Bradsher provides multiple answers:
China’s commerce ministry, which is very close to the country’s exporters, has strenuously and publicly opposed a rise in the value of China’s currency over the past month. But it appears to have lost the struggle in Beijing as other interest groups have argued that China is too dependent on the dollar, that a more flexible currency would make it easier to manage the Chinese economy and that China is becoming increasingly isolated on the world stage because of its steadfast opposition to any appreciation of the renminbi since July, 2008....
People with knowledge of the policy deliberations in Beijing said that Chinese officials had made the decision to shift the country’s currency policy mainly in response to an assessment of economic conditions in China, and less in response to growing pressure from the United States and, less publicly, from the European Union and from developing countries.
So, what's going on? First, it's possible that the policy shift will just be a token move. I'm confident that China won't appreciate as much as, say, Chuck Schumer wants. That said, this doesn't sound like a token-y move.
If China's shift is a real one, there appear to be three possible sources of change:
1) Domestic factors and actors convinced China's leadership that diminishing marginal returns for keeping the yuan fixed and masively undervalued had kicked in;
3) China responded to threats of unilateral U.S. action, such as being named as a currency manipulator, and/or calls for a trade war;
These are not mutually exclusive arguments, and we might never know exactly what caused China's . But for the record, I think (1) and (2) maqttered a hell of a lot more than (3). That said, I can't rule out the possiblity that their antics helped scare China into action.
Am I missing anything?
I see I was not the only blogger to point out the Paul Krugman = neoconservative argument -- see Ryan Avent's recent posts over at Free Exchange, which also challenge Krugman on the question of whether an appreciating yuan would actually reduce macroeconomic imbalances. It's safe to say that the neocon meme got Krugman and his supporters a wee bit snippy.
Krugman has posted a more substantive reply, however, and Avent has responded as well. They are debating across a number of issues: 1) whether the Chinese government can truly control China's consumption rate; 2) whether a revaluation would in fact lead to an improvement in U.S. exports/macroeconomic imbalances; and 3) The best way to get China to alter its status quo policies.
On the first two questions, I find myself siding with Avent on the first point (it's going to take a looong time for China's consumption rate to increase) and with Krugman on the second point (revaluation would still make a difference). Scott Summer, Michael Pettis, and Tom Oatley have all also posted thoughtful responses/critiques of Krugman that are worth checking out.
I want to focus on the third question, however -- what's the best way to pressure China into altering its position? Krugman's proposal in his op-ed was Nixon redux -- slap on a 25% import surcharge and let slip the dogs of a trade war. It was the unilateralist (and violation-of-WTO-trade-rules) aspect of Krugman's proposal that sparked the neocon snark on my part. In my opinion, the U.S. should not act in a unilateral manner on the currency issue when other countries are also seriously put out with China's behavior. I'm not saying it should be off the table, either -- but it's a policy of last resort rather than first resort. Coordinated action to isolate China -- through the G-8, G-20, and other international bodies -- seems like the next step, rather than slapping on an import surcharge.
Krugman elaborates -- a bit -- here:
Here’s how the initial phases of a confrontation would play out – this is actually Fred Bergsten’s scenario, and I think he’s right. First, the United States declares that China is a currency manipulator, and demands that China stop its massive intervention. If China refuses, the United States imposes a countervailing duty on Chinese exports, say 25 percent. The EU quickly follows suit, arguing that if it doesn’t, China’s surplus will be diverted to Europe. I don’t know what Japan does.
Suppose that China then digs in its heels, and refuses to budge. From the US-EU point of view, that’s OK! The problem is China’s surplus, not the value of the renminbi per se – and countervailing duties will do much of the job of eliminating that surplus, even if China refuses to move the exchange rate.
And precisely because the United States can get what it wants whatever China does, the odds are that China would soon give in.
Look, I know that many economists have a visceral dislike for this kind of confrontational policy. But you have to bear in mind that the really outlandish actor here is China: never before in history has a nation followed this drastic a mercantilist policy. And for those who counsel patience, arguing that China can eventually be brought around: the acute damage from China’s currency policy is happening now, while the world is still in a liquidity trap. Getting China to rethink that policy years from now, when (one can hope) advanced economies have returned to more or less full employment, is worth very little. (emphasis added)
Look, Krugman is blogging here -- I'm sure that he's thought about the political economy dimension a bit more that a single post suggests. That said, Krugman is talking exactly like the most neocon of neoconservatives was before Iraq. He evinces complete disregard for existing multilateral structures, makes casual assumptions about how allies will line up behind the United States and adversaries will simply fold, and underappreciates the policy externalities that would take place if his idea was implemented.
On the multilateralism point: as Simon Lester points out, a countervailing duty applied against all of China's imports across the board because of currency manipulation would be a flagrant violation of WTO rules. So, question to Krugman (and Bergsten): are you prepared to jettison the WTO to alter China's behavior? Because that's exactly the policy choice you're setting up in your proposal.
This leads to the next problem -- Krugman/Bergsten's assumptions about how other countries would react. First of all, I'm not sure at all that China will roll over. I agree with Krugman that China's compellence power over the United States is limited. The thing is, America's compellence power over China is also limited. It's the larger economy and the deficit country, so it does have some leverage. What Krugman is suggesting is a huge demand, however -- one that would have wrenching effects on China's domestic political economy. Expectations of future conflict between the two countries are quite high, and have escalated in the past two months. Chinese nationalism is pretty robust at the moment, and nationalists are willing to make economic sacrifices rather than suffer a perceived blow to their country's prestige. This is not a good recipe for concessions, even if China is hurt more than the United States by a trade war.
Because that's what would happen -- Beijing would immediately respond with its own retaliatory tariffs on U.S. imports. They would likely harass U.S. companies with significant amounts of FDI in China. These moves would hurt China a little, but hurt the United States more. Like Michael Pettis, I think the chance of a full-blown trade war at this point becomes pretty high.
Krugman's assumption that Europe would automatically follow suit without prior consultation seems awfully casual. As the New York Times reported today, there are a lot of European companies that are not thrilled with volatility in the value of the euro -- and what Krugman is proposing is guaranteed to increase volatility. European authorities might prioritize bolstering the EU's reputation as an actor that doesn't violate multilateral norms over the economic issues at stake (and if you think that materialist explanations always trump arguments about political prestige, well, then, the euro should never have been created in the first place). I'm not sure how keen the Europeans will be about the unilateral move Krugman is suggesting. It's far from guaranteed that the EU would even be able to speak with a single voice on the issue.
Krugman's ignorance about how Japan would react (to be fair, Japan is not the easiest read right now), and his omission to mention how the rest of the G-20 or ASEAN would respond, suggests that he really hasn't thought this all the way through. I'd like to see some contingency planning in case the rest of the world doesn't line up the way he thinks.
Finally, there's no discussion -- none -- about what the political and economic effects would be during the period of uncertainty and/or if China decided they weren't going to acquiesce. Let's keep this within the economic realm and consider the following question: what's the effect of political uncertainty on investment behavior? Consumption levels? I would posit that it would increase risk-averse behavior -- particularly if this kind of trade war roiled financial markets. Wouldn't this simply exacerbate the liquidity trap concerns that Krugman has been fretting about?
Note that much of the last paragraph was framed in the form of questions. I'm not sure my answers are correct -- but I'm really not sure that Krugman's assertions/assumptions are correct.
For those three readers not transfixed by today's Healthcareapalooza: your humble blogger is in Washington, DC today to
talk China-watchers down off the ledge testify before the U.S.-China Economic and Security Review Commission. I'll post a link to the actual testimony once it's online. UPDATE: here's a link to everyone's testimony.
As is standard in these settings, I'm pretty sure I'm the least qualified person on the expert list.
Blake Hounshell highlights a tidbit from Henry Paulson's new memoir that caught my attention as well. According to Paulson, in the summer of 2008 Russia approached China to sell off their Fannie Mae and Freddie Mac debt. This merited stories from Bloomberg and the Financial Times. According to the FT:
Russia proposed to China that the two nations should sell Fannie Mae and Freddie Mac bonds in 2008 to force the US government to bail out the giant mortgage-finance companies, former US Treasury secretary Hank Paulson has claimed....
Mr Paulson said that he was told about the Russian plan when he was in Beijing for the Olympics in August 2008. Russia had gone to war with Georgia, a US ally, on August 8.
“Russian officials had made a top-level approach to the Chinese, suggesting that together they might sell big chunks of their GSE holdings to force the US to use its emergency authorities to prop up these companies,” he said.
Fannie and Freddie are known as GSEs or government sponsored enterprises.
“The Chinese had declined to go along with the disruptive scheme, but the report was deeply troubling,” he said. A senior Russian official told the Financial Times that he could not comment on the allegation.
The Russians deny the story in the Bloomberg story, but Ashby Monk points out the possible implications:
Paulson’s report is pretty amazing. If true, it would appear that Russia was plotting economic warfare against the US during the summer of 2008; I don’t really know what else to call it. Their intention was to use their sovereign wealth to purposely weaken and damage the US economy. The fact that all this apparently occurred around the same time that Russia was engaged in a traditional war with Georgia, a US ally, lends some credibility to the idea.
This revelation–while unconfirmed–will not comfort those in the West that fear SWFs; it doesn’t help anybody if these funds are seen to be potential weapons of economic destruction…
Let's assume this is true for the sake of making life interesting. There's still a few more pieces of data I'd like to have before drawing conclusions.
Monk assumes that the Russians did this for geopoltical reasons. If memory serves, however, China and Russia were both concerned about protecting the value of their GSE debt. Forcing the U.S. government to intervene would have helped protect their remaining holdings. So this might have been an entirely commercial gambit.
Second, this really isn't about sovereign wealth funds per se but about official holdings of U.S. debt and equities. Some people think this is a real problem -- others don't. Readers should provide their thoughts in the comments.
Third, the fact that the Russians thought the Chinese would go along with them on this says a lot about the delusions Russian leaders had during the Russian-Georgian conflict. They really seem to have believed that China, other members of the Shanghai Cooperation Organization, and the rest of the Collective Security Treaty Organization would be perfectly cool with Russia recognizing the independence of two secessionist states -- just because it would be an affront to the U.S.A. Whoops.
This raises my provocative but closing point -- that the Russian-Georgian war might have been the best thing that could have happened for the bilateral relationship. Despite all the doomsaying at the time, the conflict -- combined with Great Recession -- had a modest humbling effect on Russian ambitions. The commodity bubble - which had fuelled Russia's economic growth and self-confidence for the past decade - popped in the summer of 2008. The recognition of Abkhazia and South Ossetia abetted a capital outflow that had begun in reaction to the Russian government's heavy-handedness in picking winners and losers in the domestic economy. These trends, if nothing else, likely highlighted the opportunity costs of continued bellicosity to Russian elites and Russian policymakers.
At the same time, the invasion itself provided a moment of clarity to U.S. policymakers about the precise limits of their influence when dealing with balky republics in the Caucasus. Even as a candidate, Obama articulated a "realist internationalist" position towards the Russian Federation. This approach recognizes Russia's great power status and the utility of a great power concert in dealing with global trouble spots. Rather than prioritizing human rights, democratization, or even economic interests in the bilateral relationship, this policy position prioritizes great power cooperation on matters of high politics, such as nuclear nonproliferation and the containment of rogue states that transgress global norms.
You can argue about the priorities, but on the whole I think this policy has worked. The war allowed both sides to confront the costs of continuing down a very negative trajectory. They both stepped away from the brink.
This is worth thinking about whem mulling over a different bilateral relationship that's had a bad few months.
If it's early January, then it's time for Russia to play hardball with one of its neighbors and put a mild scare into Western Europe:
Russia has stopped shipments of oil to Belarus following a dispute about pricing, oil traders said on Monday.
The move will set off alarm bells in Europe, triggering memories of last January’s natural gas war between Russia and Ukraine that left several eastern European cities without gas for days. Oil, however, is more fungible than gas, and easily made up with alternative suppliers, so the consequences of the dispute are unlikely to be as severe....
The cut-off follows the failure of negotiations between Minsk and Moscow in the closing days of last year on new tariff arrangements for transit of Russian oil onward to Europe.
On January 1 a spokesman for the Belarus government told Interfax news agency that “unprecedented pressure” had been put on their delegation during the negotiations. Minsk called on Russia to continue supplies to Belarus under the old terms, until a new agreement could be reached.
It warned that Russian demands would violate a customs union agreement signed last year by Belarus, Russia and Kazakhstan, and “would undermine all agreements reached on the further integration of our states”.
The dispute is likely to present an?obstacle to closer ties between the two countries. Belarus is virtually Russia’s only ally among former Soviet republics.
In this bilateral relationship, Belarus is Charlie Brown to Russia's Lucy. Every time the Belarusian government believes it has embedded Russia into an institution that affords it some protection, Russia pulls away the football.
Belarus' geostrategic problem is that its a buffer state with no natural ally, no natural resources, and a human rights situation that is so God-awful that no one in the West likes the country very much.
my boss U.S. envoy Stephen Bosworth arrives in Pyongyang, I think it's worth noting that the North Korean government has not been endearing itself to its citizenry. Hmmm... let me rephrase that -- the DPRK government has been acting with even more disregard fo its citizens than usual.
The nub of the problem has been a currency revaluation/reform in which North Korean citizens will be forced to trade in their old notes for new ones -- and each citizen is limited in the amount they can exchange. This move was designed to do two things: lopping off a few zeroes of the North Korean won, and flushing out private traders along the Chinese border who are sitting on currency notes that will soon be worthless.
It appears, according to AFP, that the DPRK regime has finally come up with a move that actually roils their population:
Amid reports that some frustrated residents have been torching old bills, South Korean aid group Good Friends said authorities have threatened severe punishment for such an action.
Many residents would burn worthless old bills rather than surrender them to authorities, in order to avoid arousing suspicions about how they made the money, Good Friends said.
The banknotes carry portraits of founding president Kim Il-Sung and his successor and son Kim Jong-Il. Defacing their images is treated as a felony.
With nascent private markets for food collapsing because of the currency reform, citizens are finding it difficult to obtain basic staples. The U.N.'s Food and Agriculture Organization is already projecting another grain shortage for the country.
Over at the U.S. Institute for Peace, John S. Park does a nice job of explaining the political economy effects of this currency move:
As North Korean people in key market-active regions benefited from growing commercial interactions, low- to high-level DPRK officials figured out ways to get a cut of the money made. These officials used most of these bribes (viewed by traders as a "cost of doing business") to line their own pockets, but also used a portion of these for their respective organization's operating budget. With less to skim from the markets due to this revaluation, these officials will have funding gaps to fill. Given that these officials also enjoyed a higher standard of living, the discontent of the North Korean people will be aligned with these "skimming" officials. New groups of losers from this revaluation may be more advanced and better organized than protesters during previous periods of government-initiated economic and currency reforms....
If the DPRK government had improved and restored the inconsistent Public Distribution System and other public services on a national basis (a massive undertaking), a revaluation may have triggered greater state control by minimizing the benefits from the non-formal market system and making the North Korean people dependent on the state again. It does not appear that the DPRK government has improved these national systems. In an apparent effort to restore discipline through this revaluation, the DPRK government may have initiated a period of economic, social, and political destabilization by undermining a widely used coping mechanism for the people, as well as a growing number of officials.
[So a buckling DPRK regime is a good thing, right?--ed.] From a nonproliferation perspective, not so much, no.
Any domestic instability in North Korea is bad for Bosworth, the Six-Party Talks, and nonproliferation efforts in general. The June uprisings in Iran have led the Iranian regime to adopt a more hardline position on the nuclear issue, both to bolster the conservative base and engage in "rally round the flag" efforts. I see no reason why this logic would not apply to North Korea as well -- indeed, domestic instability is the likely explanation for Pyongyang's bellicose behavior earlier this year.
Developing.... in a very disturbing way.
UPDATE: My FP colleague Tom Ricks has more.
It took me forty pages of pretty dense prose to explain why China's massive dollar holdings do not translate into increased foreign policy leverage.
Over the weekend, Saturday Night Live's cold open managed to summarize the subtleties of the Sino-American economic relationship in under seven minutes. Go ahead and watch it. I'll wait.
Note that, although it appears that President Hu has the power because he is repeatedly berating Obama, the content of the skit suggests otherwise. Hu's repeated complaints that the United States is, er, "doing sex" to him demonstrates the very limited leverage China has over U.S. policy.
My only complaint with the skit is that it fails to mention why China is buying up dollar-denominated assets in the first place.
Over at Politico, Eamon Javers notes an odd trend in the Drudge Report:
On Tuesday, Matt Drudge ran a headline about the weakening U.S. dollar on his website, Drudgereport.com. In and of itself, that would be unremarkable, except that it was the 18th time Drudge had posted a link to a story about the weak dollar this month.
And October was only 20 days old.
Clearly, Matt Drudge has developed a fascination with the declining U.S. dollar.
“He’s fixated on it,” said Tom Rosenstiel, director of the Pew Research Center’s Project for Excellence in Journalism. “There’s no question that Drudge can alter what people are paying attention to.”
Market watchers say it’s unlikely that Drudge is actually moving the currency markets with his relentless attention.
“I don’t think that anyone who seriously trades currencies reads The Drudge Report before making important buy or sell decisions,” said Chris Roush, a professor of business journalism at the University of North Carolina at Chapel Hill. (emphasis added... because that's a priceless quote)
Drudge isn't the only one obsessed about the dollar. Last week, James Pethokoukis blogged the following for Reuters:
The aftershocks of the global financial crisis may now be propelling the dollar back to the political forefront. The greenback’s continuing slide makes it a handy metric that neatly encapsulates America’s current economic troubles and possible long-term decline. House Republicans for instance, have been using the weaker dollar as a weapon in their attacks on the Bernanke-led Federal Reserve.
For more evidence of the dollar’s return to political salience, look no further than the Facebook page of Sarah Palin. The 2008 GOP vice presidential nominee — and possible 2012 presidential candidate — has shown a knack for identifying hot-button political issues, such as the purported “death panels” she claims to have found in Democratic healthcare reform plans. In a recent Facebook posting, Palin expressed deep concern over the dollar’s “continued viability as an international reserve currency” in light of huge U.S. budget deficits.
She might be onto something here, politically and economically. A recent Rasmussen poll, for instance, found that 88 percent of Americans say the dollar should remain the dominant global currency. Now, the average voter may not fully understand the subtleties of international finance nor appreciate exactly how a dominant dollar has benefited the U.S economy. But they sure think a weaker dollar is a sign of a weaker America.
The dollar's slide in value has been predictable, as the need for a financial safe haven has abated. By and large, a depreciating dollar helps the U.S. trade balance (though it would help much more if the Chinese renminbi got in on the appreciation).
Even the Chinese, who have spoken like they want an alternative to the dollar as a reserve currency, are in point of fact not doing much to alter the status quo. Why? To paraphrase Winston Churchill, the dollar is a lousy, rotten reserve currency - until one contemplates the alternatives.
Because all of the alternatives have serious problems. The euro, the only truly viable substitute for the dollar, is not located in the region responsible for the largest surge of growth. It would be unlikely for the ASEAN +3 countries to agree to switch from the dollar to a new currency over which regional actors have no influence (the Europeans wouldn't be thrilled either, as it would lead to an even greater appreciation of the currency). Oh, and the European Union has no consolidated sovereign debt market. The euro is worth watching, but it's not going to replace the dollar anytime soon.
The other alternatives are even less attractive. Most other national currencies beyond the euro - the yen, pound, Swiss franc, Australian dollar - are based in markets too small to sustain the inflows that would come from reserve currency status. The renminbi remains inconvertible. A return to the gold standard in this day and age would be infeasible - the liquidity constraints and vagaries of supply would be too powerful. There's the using-the-Special-Drawing-Right-as-a-template-for-a-super-sovereign currency idea, but this is an implausible solution. As it currently stands, the SDR is not a currency so much as a unit of account. Even after the recent IMF authorizations, there are less than $400 billion SDR-denominated assets in the world, which is far too small for a proper reserve currency.
So, what's really going on here with the dollar obsession? I suspect that with the Dow Jones going back over 10,000, Republicans are looking for some other Very Simple Metric that shows Obama Stinks. The dollar looks like it's going to be declining for a while, so why not that? Never mind that the dollar was even weaker during the George W. Bush era -- they want people to focus on the here and now.
The thing is, I'm not sure this gambit is going to work. People who already think Obama is a socialist will go for it, sure, but that's only rallying the base. I'm not sure how much fence-sitters care about a strong dollar, however. If anything, populist movements tend to favor a debasing of the currency rather than a strengthening of it.
Still, I'm just a political scientist -- I'm sure that, "theories on political behavior are best left to CNN, pollsters, pundits, historians, candidates, political parties, and the voters."
So, have at it, readers! Will the falling dollar be a source of populist outrage if Drudge links to it enough?
Your humble blogger has a rather long essay in the Fall 2009 issue of International Security. What's a lowly IPE scholar doing publishing in a high and mighty security journal? Assessing whether China's massive holdings of dollar-denominated assets is a big deal or not. The title may or may not give away my argument: "Bad Debts: Assessing China's Financial Influence in Great Power Politics."
Here's the abstract:
Commentators and policymakers have articulated growing concerns about U.S. dependence on China and other authoritarian capitalist states as a source of credit to fund the United States' trade and budget deficits. What are the security implications of China's creditor status? If Beijing or another sovereign creditor were to flex its financial muscles, would Washington buckle? The answer can be drawn from the existing literature on economic statecraft. An appraisal of the ability of creditor states to convert their financial power into political power suggests that the power of credit has been moderately exaggerated in policy circles. To use the argot of security studies, China's financial power increases its deterrent capabilities, but it has little effect on its compellence capabilities. China can use its financial power to resist U.S. entreaties, but it cannot coerce the United States into changing its policies. Financial power works best when a concert of creditors (or debtors) can be maintained. Two case studies—the contestation over regulating sovereign wealth funds and the protection of Chinese financial investments in the United States—demonstrate the constraints on China's financial power.
Read it and weep.
For reasons that will soon become clear, your humble blogger has been reading up on Iceland's financial boom and bust in recent years. So I noted with interest that yesterday, Iceland's Prime Minister Jóhanna Sigurðardóttir took to the pages of the Financial Times to vent about her country's treatment at the hand of big countries... like the Netherlands. See if you can spot the contradiction in her statements:
In its efforts to conclude negotiations over compensation for foreign savers in failed banks, Iceland has been accused of a tendency to imagine a British or Dutch conspiracy behind any bad news.
Iceland has no such tendency. It is battling the effects of severe banking and currency crises and a recession that is affecting our part of the world as much as any other. My government, which took over in February and gained a majority in general elections in May, has to deal with the aftermath of the fall of nearly all of Iceland’s privatised banking sector....
The FT has reported how the Dutch opposed the IMF lending to Iceland in order to enforce their demands on Icesave [an online bank headquartered in Iceland that attracted upwards of 300,000 British and Dutch depositors--DD], claiming the UK and Germany as allies. The perception is that Treasury officials in the UK and the Netherlands used their bargaining power against a much weaker party when the Icesave deal, now being debated in the Icelandic parliament, was struck.
This has made it difficult for Iceland’s government to convince the parliament and Icelanders that an agreement on Icesave accounts with the UK and the Netherlands is un-avoidable.
Here's the funny thing -- if you click on the link from the FT about how the Dutch are using the IMF to put the screws on Iceland, you get this story which sources those suspicions to.... Icelandic officials. The story also goes on to say that, "The view in London is that Iceland has a tendency to imagine a British or Dutch conspiracy behind any bad news."
To be fair to Sigurðardóttir, she wasn't in power when Iceland got itself into this mess. Furthermore, Iceland did have help getting into this mess -- reading up, it's clear that EU banking regulations are even more screwed-up than US banking regulations. And it wouldn't stun me if the Dutch were putting the screws on Iceland.
Still, reading up on the mess in Reykjavik, it is truly stunning how little Icelanders seem to blame themselves for their current plight (and how much they thought their run of success was completely deserved). The fault always seems to lie with cabals of hedge funds, rating agencies, foreign central bankers, etc.
Iceland has had its share of bad luck, and until recently had a political class that was by far the most incompetent in the OECD area (and the competition in this arena is admittedly intense). Still, reading Sigurðardóttir's op-ed, I can see why Henry Kissinger once described Iceland as the most arrogant small country he had ever encountered.
As you can tell from my last post, I think here's an excellent chance that the status quo persists in Iran, with a small chance that the entire edifice crumbles in the wake of a social movement unafraid of security forces. What does this mean for U.S. foreign policy towards Iran? Here's a dirty little secret -- this might actually be the best possible outcome for the Obama administration.
Well, not for the next few days. The administration is going to have to tap-dance for the next few days in order to avoid the Schylla of a "Chicken Kiev" moment and the Charybdis of going all in with the reformers only to see them crushed.
After that, then what? Well, I think the only way the reformers win is with Khamenei going down, which would mean a genuine regime change, which is a game-changer. A new Iranian regime is not going to give up its nuclear program lightly, but I do suspect that negotiations with a reformist regime would be pretty fruitful.
What if, as I suspect, the current regime keeps its grip on power? Well, the Obama administration still has a stronger hand to play. Here's why:
1) Tehran's influence in the region is going to ebb. Iran's power in the Middle East in recent years has emanated from a mix of hard power (nuke progam, oil, support of Hebollah) and soft power (Ahmadinejad's economic populism, ranting against corrupt Arab elites, and general pugnaciouness towards Israel). Regardless of the result now, the election has killed their soft power in the region. This doesn't mean that Iran's influence disappears -- see all the hard power stuff. Still, with each passing day of protests, Ahmadinejad looks more like a bully than a leader of a transnational social movement.
2) Multilateral coordination just got easier. Just as with North Korea, it gets ever easier for the United States to create a united front among its allies and other great powers when dealing with Iran going forward. The reaction in the West has been pretty uniform on the election results. When the nuclear negotiations break down -- and they will break down -- it should be easier to coordinate both the security and foreign policy responses.
3) No more two-level games for Iran. If Mousavi had won outright, the Obama administration would have been in a serious bind on the nonproliferation question. The president of Iran doesn't control the nuclear program; the supreme leader controls it. With Mousavi as the public face of Iran, however, it would have been tougher for the Obama administration to describe Iran as unyielding when it refused to make any serious concessions on its nuclear program. Furthermore, Mousavi could always ask the Obama administration to back off on the nuclear question because of hardliner resistance back home. That gambit won't play, now.
This doesn't mean that nuclear negotiations will go swimmingly -- I expect they will fail. What it does mean, however, is that the rest of the world will be hard-placed to blame the end of the negotiations on the Obama administration. Iran is going to look like the intransigent actor from here on in.
Just to be clear: I'm not saying that this outcome is a great one for the United States. Washington has a weak hand to play. My point is that, compared to the counterfactual of an Iran with Mousavi as its public face and Khamenei remaining the true leader, this is somewhat preferrable. The "pleasing illusions" of clerical power in Iran have now been stripped bare.
My pace on commenting on Iran has been about as sluggish as CNN's. By my rough estimate, I'm now approximately 4,567 posts behind Andrew Sullivan on the Iran election. Let's try to get back in the game!
In this post I want to look at what's likely to happen in Iran; the next post will look at what the Obama administration's response.
OK, so, Iran. There are protests, riots, and Twitters galore -- will it amount to regime change?
Alas, I think the answer is no. I don't want this to be the answer. No matter how I slice the data, however, I get to that outcome.
Let's stiputlate that the election results were rigged. Here's the question -- why were they so blatant about it? The speed and skewness of the "official" results seemed design to trigger disbelief. Was that intentional?
Hey, you know what, I think it was. University of Chicago political scientist Alberto Simpser has written about why authoritarian leaders like Khamenei would engage in electoral corruption (.pdf). The answer is not pretty:
[A]n overwhelming victory today can send a powerful signal to the citizenry tomorrow – a large margin of victory can deter opposition turnout, discourage opposition coordination (e.g. when the opposition is fragmented into a number of parties), and increase the winner’s bargaining power with respect to electorally important social actors by rendering it less likely that they are pivotal in a winning coalition.
I suspect that this was the intent in Iran. The question is whether it will work. Khamenei has backtracked a little from his endorsment of Ahmadinejad as the winner, and now wants the Guardian Council to investigate allegations of election fraud. I suspect this is an effort to play for time, however, in order to get his security apparatus prepped for a more brutal crackdown. Twice in the past 10 years (1999 and 2003), this regime has been perfectly willing to crack down on reformist groups to secure its hold on power. I see no reason for Khamenei to hold back this time around.
In other words, unless Iran's security apparatus starts to split, I don't see how this ends in any outcome other than Khamenei staying in power.
What does this mean for the rest of the world? On to the next post!
The New York Times runs two op-eds today on the future of the dollar's status as the world's reserve currency, particularly with regard to China.
Victor Zhikai Gao's essay doesn't actually say a whole lot on the matter, except for this excerpt:
Beijing recently called for a greater role in international trade for the special drawing rights currency of the International Monetary Fund. But China is also fully aware that the United States can veto an I.M.F. decision. China’s call was more meant to sound an alarm to the United States.
Many Chinese people increasingly fear the rapid erosion of the American dollar. The United States may want to consider offering inflation-protection measures for China’s existing investments in America, and offer additional security or collateral for its continued investments. America should also provide its largest creditor with greater transparency and information.
As Brad Setser points out, it's a bit rich for the Chinese to fret about U.S. inflation, since if the renminbi started appreciating, many of the macro imbalances currently plaguing the international monetary system might be lessened. Of course, talking about "currency appreciation" puts the onus on Beijing, while talking about inflation conveniently puts the onus on the United States.
The other op-ed is by Nouriel Roubini -- a.k.a., Dr. Doom. It's a good primer on the benefits that accrue to the United States from having the dollar as the world's reserve currency. That said, this part confused me:
We have reaped significant financial benefits from having the dollar as the reserve currency. In particular, the strong market for the dollar allows Americans to borrow at better rates. We have thus been able to finance larger deficits for longer and at lower interest rates, as foreign demand has kept Treasury yields low. We have been able to issue debt in our own currency rather than a foreign one, thus shifting the losses of a fall in the value of the dollar to our creditors. Having commodities priced in dollars has also meant that a fall in the dollar’s value doesn’t lead to a rise in the price of imports (emphasis added).
The other parts of that paragraph make sense, but that last sentence mystifies me. Wasn't part of the reason that oil and other commodity prices spiked last year was the declining value of the dollar?
In general, both op-eds urge the U.S. to get its financial house in order. I certainly don't disagree with that recommendation. Still, it's a bit disingenuous to suggest that the U.S. is the only country at fault for the current overhang of dollar reserves. Beijing needs to take a good hard look in the mirror on this issue.
One of the great ironies about the Sino-American financial relationship is that most Americans believe that China has been screwing the U.S. over through their massive accumulation of dollars, while most Chinese believe that America has been screwing China over through.... their massive accumulation of dollars.
Well, what if the accumulation is not so massive? Yesterday's New York Times story by Keith Bradsher suggested that China was buying far fewer dollars than it used to, and therefore we can all breathe easier about China using its dollar holdings as a form of foreign policy leverage:
Chinese reserves fell a record $32.6 billion in January and $1.4 billion more in February before rising $41.7 billion in March, according to figures released by the People’s Bank over the weekend. A resumption of growth in China’s reserves in March suggests, however, that confidence in that country may be reviving, and capital flight could be slowing.
The main effect of slower bond purchases may be a weakening of Beijing’s influence in Washington as the Treasury becomes less reliant on purchases by the Chinese central bank.
Asked about the balance of financial power between China and the United States, one of the Chinese government’s top monetary economists, Yu Yongding, replied that “I think it’s mainly in favor of the United States.”
He cited a saying attributed to John Maynard Keynes: “If you owe your bank manager a thousand pounds, you are at his mercy. If you owe him a million pounds, he is at your mercy.”
I don't disagree with Yu, but I do disagree with Bradsher. It's necessary to separate China's willingness to use its reserves as a lever from the expectation that such a lever will net it significant concessions.
As long as China is heavily dependent on the U.S. market as a source of economic growth, it is fundamentally constrained in using its reserves in a strategic manner. Regardless of its feelings towards the United States, Beijing will not take actions that shoot itself in the economic foot.
If, however, China manages to decouple its economy somewhat from the U.S. market, then the calculus of compellence changes. Such a decoupling would contribute to the unwinding of the macroeconomic imbalances caused by the Bretton Woods II arrangements. It would also reduce whatever constraints economic interdependence has placed on China's financial statecraft.
This is the paradox -- the more leverage China has, the more reluctant it will be to use it. The more willing China is to use its reserves in a strategic manner, the less likely such statecraft will yield anything in the way of meaningful concessions.
[This sounds.... familiar.--ed. Oh, shut up.]
Daniel W. Drezner is professor of international politics at the Fletcher School of Law and Diplomacy at Tufts University.