Of all the news stories about China’s so-called currency reform, “Saying goodbye to Mr. Greenspan,” by Keith Bradsher of the New York Times, hits the nail closest to the head. Mr. Bradsher reports an unknown central banker, Zhou Xiaochuan, governor of the People’s Bank of China, will replace Alan Greenspan as China’s currency and monetary guru now that China has decided to partly delink its yuan from the dollar.
Mr. Bradsher also writes China’s tight peg of the yuan to the dollar, which has been the case for more than a decade, generated “impressive stability [that] helped prompt business executives and entrepreneurs from around the world to invest $60 billion a year in new factories and other operations in China. These investors were confident they knew what those businesses and their exports would be worth in dollars.” Mr. Bradsher is exactly right.
Economist Arthur Laffer has referred to this as the outsourcing of Alan Greenspan to China. I would add, though the peg wasn’t perfect, it gave China a highly credible currency as a medium of exchange and store of investment value.
One cannot help but wonder if China’s move toward a somewhat more discretionary policy is linked to Mr. Greenspan’s coming retirement in January 2006. While most media have focused on the China-bashing trade-protectionist threat within the U.S. — with Sens. Smoot Schumer and Hawley Graham driving this sentiment — Mr. Greenspan’s retirement could also be a significant factor in the new Chinese thinking.
In fact, Mr. Greenspan’s impending retirement adds as much uncertainty to U.S. monetary policy as it does to China’s. For better or worse, the “Greenspan Standard” has brought down inflation and interest rates pretty steadily for nearly 20 years (following Paul Volcker’s brave fight to do the same while chairing the Fed).
We have almost no idea who will replace the Maestro, or that person’s monetary views. Though Mr. Greenspan’s tenure has been marked by his highly personalized, often-changing view of how the world works in economic and monetary terms, he has been an effective policy administrator.
On the whole, Mr. Greenspan has governed as a supply-sider. He has favored lower tax-rates to spur economic growth and price stability to sustain growth. While the U.S. greenback over the last 10 years has sometimes behaved like a Coney Island rollercoaster, noninflationary growth has been the rule in the U.S. as well as China. What happens next is anybody’s guess.
As for the new, more discretionary China, it may well peg the value of the yuan to a dollar-dominated basket of currencies. There may be a bit more influence from the yen and the euro, but the best possible spin is the peg will be dollar-based. This suggests currency stability and more noninflationary growth for the Big Tiger. It also rules out a creeping appreciation of the yuan, which could cause deflation in China and inflation in the U.S. The currency-basket rule would also eliminate an Argentina-like crackup of the yuan, which would lead to a total loss of confidence by international investors.
In this sense, the currency-basket rule would still reflect significant dollarization of the China and Pacific Rim economies, a good idea for growth, trade and even diplomacy. This model would maximize connectivity between the regions, and might also throw off positive benefits for political democratization and wartime cooperation. Free trade and dollarized currency connectivity could in theory lead to a more peaceful and prosperous world.
I am still, however, bewildered by the Treasury Department’s great faith in floating exchange rates. Does anyone, for example, truly believe the dollar-euro relationship has been healthy? In dollar terms, the euro first was offered at about $1.17. It then dropped as low as 80 cents, shot up to nearly $1.40 and is now about $1.21. Talk about rollercoasters.
The failure of the G-7 economic powers to generate greater currency stability is a glaring omission. Currency stability is a key building block of economic growth, while radical fluctuations of major currencies have been a detriment to growth. Just look at the stagnant economies of Japan and Western Europe. This subject is swept under the rug time and again at major economic summits, favoring economic failure rather than success.
Free markets function best when the basic monetary unit of account is steady and predictable. While others cry “currency manipulation,” I counter that China’s stability relative to the dollar is a success story. More, the interactions of the dollar, euro and yen have been manipulated on a grand scale. Yet we only bash China.
Global currency reform to promote monetary stability and maximize economic growth has been completely ignored by Europe, Japan and the U.S. Instead of blaming China, the major powers should take a hard look at their own failures.
Lawrence Kudlow is host of CNBC’s “Kudlow & Company” and is a nationally syndicated columnist.