Monday, 18 Oct 2010 09:31 AM
By: Julie Crawshaw and Greg Brown
Nobel laureate economist Robert Mundell says the latest moves
to prop up weak Western economies by creating inflation is a
“big mistake.”
Instead, the Federal Reserve and European Central Bank should
intervene in currency markets to limit movement in the world's
single most important exchange rate, the euro-dollar pair, he
said in an interview in The Wall Street Journal.
"The Fed is making a big mistake by ignoring movements in the
price of the dollar, movements in the price of gold, in favor of
inflation-targeting, which is a bad idea,” says Mundell, taking
square aim at Fed Chairman Ben Bernanke’s expected decision to
ramp up asset buying in order to manufacture inflation.
Bernanke’s unusual plan is the direct result of his own public
criticism of Japanese political leaders years ago, when he was
an academic and the Asian giant faced similar — although not
identical — circumstances.
In a speech last week, the Fed chief made clear he would push
for inflation despite having already printed trillions of
dollars to no avail. Inflation remains low, perilously low
according to some at the Fed, and unemployment is likely to stay
stuck close to 10 percent for months to come.
Investors have been bidding down the dollar in expectation of a
major new Fed initiative. They should have a clear idea of how
much new money at the close of the next Fed rate-setting
meeting, Nov. 2 and 3.
The resulting pressure has pushed the dollar lower, although
many pundits now expect profit-taking on the trade. Some big
exporting nations like Brazil have begun to push back ahead of
the announcement, hinting at plans to devalue to protect their
own exports.
Some worry a hot “currency war” would result in rapid
competitive devaluations around the globe and a new wave of
protectionism, ultimately collapsing the global economy into
deeper recession or much worse.
Meanwhile, the Bank of England has just announced a new $160
billion stimulus package to help it avoid a looming double dip.
While technically still an option here, it seems unlikely that a
Republican majority in one or both houses would ever sign off on
new stimulus spending.
In fact, many candidates running in the Nov. 2 mid-term
elections are literally running against the old stimulus plan
and the concurrent bank and corporate bailouts.
Though he doesn’t foresee a currency war, Mundell does feel it's
important to have a high-level conference — a renewal of the
Bretton Woods accord to set global currency policy decades ago —
to explore options for reforming the world monetary system.
He says the rise in currency trading by banks is indicative of
sickness in the monetary system.
“These currencies should be fixed, as they were under Bretton
Woods or the gold standard,” he says. “All this unnecessary
noise, unnecessary uncertainty; it just confuses the ability to
evaluate market prices."
"The whole idea of having a free trade area when you have
gyrating exchange rates doesn't make sense at all. It just
spoils the effect of any kind of free trade agreement."
Mundell doubts it would be possible today to make the dollar the
central player in a worldwide monetary system because America's
position is not nearly as strong now as it was in the 1950s.
Nonetheless, he’s disappointed by the reluctance of the United
States to take into account a big movement in the rest of the
world to do something about restoring stability to the
international monetary system.
"They ignore it, as if the dollar's exchange rate is a mere
domestic matter," he says, pointing out that the current
U.S.-China dispute over currency valuation is in fact connected
to the international role of the dollar.
"The U.S. berates China for its exchange rate policy, which
Washington doesn't like," Mundell says. "But one-sided pressure
on China to change its exchange rate is misplaced."
Mundell strongly believes that pro-growth tax policies and
stable exchange rates are essential for turning around the
economy. He sees the price of gold is an index of inflation
expectations.
"The rising price of gold shows that people see huge amounts of
debt being accumulated and they expect more money to be pumped
out," he says.
Even so, Mundell hedges. "They might not necessarily be right;
gold could be overvalued right now," he says.
Despite closing lower last week, the uptrend in the gold price
remains intact, rallying to within 1 percent of $1,400 per
ounce.
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