European Network Academy of Social Movements

Miguel Otero-Iglesias, ATTAC SpainFreiburg, 10 August 2011

(Working Slides)

Understanding the Instabilities in the Flexible-Dollar-Standard

The Era of Bretton Woods (1944-1971)The International Monetary System (IMS) is

based on the dollar standard linked to goldThe dollar is fixed at $35 the ounce of goldThe rest of currencies are linked to the dollarTrade is promoted – Free current accountSpeculation and Exchange rate movements are

hindered: Capital Account controlsSince the 1960s the US is losing in

competitiveness and Europe and Japan start to catch up

Nonetheless, the US enjoys the ‘Exorbitant Privilege’

The Problem of the Triffin DilemmaThe US needs to run current account deficits to

provide the world with the necessary liquidityThe US is the demand pull in the IMSThis creates constant current account imbalances

between the US and its major creditor countriesThis undermines the credibility of the dollar in the

long runIn the 1970s it was mostly Europe (especially

Germany)In the 1980s it was JapanIn the 1990s, there is the emergence of the New

Economy and the US is able to regain competitiveness despite a strong dollar

In the 2000s the creditor is China

Monetary Power in ActionMonetary Power is the capacity to delay and deflect

the adjustment costs as much as possibleDelay means extending the time of adjustmentDeflecting means that when adjustment comes, the

monetary power is able to deflect some of the adjustment burden upon others

This is known as the ‘Dollar Weapon’You talk down the dollar, you introduce

expansionary monetary and fiscal policy, you ask others to appreciate and to implement expansionary fiscal policy

With Germany and with Japan the US had the upper hand because it provided the security umbrella

The Exorbitant Privilege since BW

The Dollar Index since BW

The Flexible-Dollar-System and the Explosion of Liquidity

Exponential Growth in FX Reserves

GLOBAL FOREIGN EXCHANGE RESERVES ($m)

0

1,000,000

2,000,000

3,000,000

4,000,000

5,000,000

6,000,000

7,000,000

8,000,000

9,000,000

10,000,000Other developing

Mexico

Brazil

Algeria

Saudi Arabia

Russia

Other industrial

Australia

UK

Eurozone

US

Other Asia

Malaysia

Thailand

Hong Kong

Singapore

India

Korea

Taiwan

Japan

China

Consequence of this liquidity: Constant Financial Crises

Situation since the tech bubble burst in 2000

Who carries the adjustment cost?The US applies a policy of “benign neglect” in

relation to the dollarThe US tries to convince China to revalue its

currency as it did before with Germany and Japan

China does not give in and maintains a peg to the dollar until 2005, and reintroduces it in 2008

The hawkish attitude of the European Central Bank brings an appreciation bias to the euro

Europe is the only major trade player that has not an active policy in relation to its FX rate

Euro-dollar Exchange rate

Dollar-Chinese Yuan Exchange Rate

Currency Wars Arrive to Brazil

POST-CRISIS REAL EXCHANGE RATES (JP Morgan)

80.0

90.0

100.0

110.0

120.0

130.0

140.0

150.0

Brazil Russia India China Turkey Indonesia Mexico

Current situation: “To put it crudely, the US wants to inflate

the rest of the world, while the latter is trying to deflate the US. The US must win, since it has infinite ammunition: there is no limit to the dollars the Federal Reserve can create. What needs to be discussed is the terms of the world’s surrender: the needed changes in nominal exchange rates and domestic policies around the world.” Martin Wolf, Financial Times, 12 October 2010

The main features of the FDSThe US is the main provider of liquidity and demand

pull of the system (first Bretton Woods, and then Bretton Woods II)

The system is inflationary in the good times and deflationary in recessions

In the FDS adjustment falls mainly on deficit countries, but the US who enjoys the exorbitant privilege

This asymmetry can be seen in the eurozone crisisThe rest is exposed, therefore there is the incentive

to be a surplus country (Germany, Japan, South East Asia, China)

Can we have a more stable IMS?

The Chinese Proposals to deal with the dollar overhang More use of the IMF SDRsInclusion of the Yuan/RMB in the SDR basketCreation of a Substitution Account in the IMFChina has proposed to create a managed

floating exchange rate regimeProblems:US unwilling to let its exorbitant privilege goUS demands flexible yuan, independent

central bank and opening of capital account (China will not accept)

Can the SDR without a political authority behind?

Do we need a world government?

Possible Future Scenarios?1) Increased competition between the Dollar,

the Euro and the Yuan (this can lead to major disruptions if transition not managed).

2) The US will press ahead with its exorbitant privilege, more quantitative easing (QE), more liquidity, more tensions and perhaps a return to a gold link or similar (uncertainty is widespread in the IMS)

3) The international community can move towards cooperation. SDRs as harbinger for a global currency a la Bancor. (The euro might provide useful lessons)

ConclusionThe FDS is structurally flawedThe Triffin Dilemma is the main cause of the instabilityThe US is the main source of demand but also the main

source of destabilising liquidity The growth in FX reserves is clear proof of this situationThe EZ has played by the rules (flexible exchange rate

and open capital account) and has carried most of the adjustment cost

A unipolar monetary system induces the hegemon to exploit it

A more coordinated and multilateral IMS could potentially be more stable