March 5, 2018 — Why has the dollar fallen since January 2017? My answer is an economic turnaround in the rest of the world. Also the level of the dollar remains rather high. But Larry Summers has a different answer.
The field of International Monetary Economics is not without its own cycles and fads.
In a speech at the European Central Bank over the summer, “On Global Currencies,” I identified eight concepts that I saw as having recently “peaked” and eight more that I saw as newly rising in relevance. Those that I viewed as losing traction were: the G-7, global savings glut, corners hypothesis, proliferating currency unions, inflation targeting (narrowly defined), exorbitant privilege, Bretton Woods II, and currency manipulation. Those that I saw as receiving increased emphasis now and in the future were: the G-20, the IMF, SDR, credit cycle, reserves, intermediate exchange rate regimes, commodity currencies, and multiple international currency system.
My post last week suggested that the euro may overtake the US dollar as premier international currency. One might ask why this would matter. Some of the reasons it matters are economic: we would lose the “exorbitant privilege” of being able to finance our international deficits easily. But there are also possible geopolitical implications.
In the past, US deficits have been manageable because our allies have been willing to pay a financial price to support American global leadership; they correctly have seen it to be in their interests. In the 1960s, Germany was willing to offset the expenses of stationing U.S. troops on bases there so as to save us from a balance of payments deficit. The U.S. military has long been charged less to station troops in high-rent Japan than if they had been based at home. Repeatedly the Bank of Japan, among other central banks, has been willing to buy dollars to prevent the U.S. currency from depreciating (late 1960s, early 1970s, late 1980s). In 1991, Saudi Arabia, Kuwait, and a number of other countries were willing to pay for the financial cost of the war against Iraq, thus briefly wiping out the U.S. current account deficit.