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QE2 and G20 hypocrisy

By Peter Morici
web posted November 8, 2010

As President Obama heads for the G20, Germany and others cry foul about U.S. Quantitative Easing—QE2 in popular jargon.

Seldom has the G20 been treated to such hypocrisy.

November 3, the Federal Reserve announced plans to purchase $600 billion in U.S. Treasury securities. Pushing liquidity into bond markets will lower interest rates on mortgages and business loans, and hopefully boost demand for U.S. goods and lower unemployment.

Since 1995, China has done the same on a grander scale. To keep its currency about 40 percent below its market value against the dollar, it prints yuan to purchase dollars, and then purchases U.S. Treasuries. That makes Chinese exports artificially cheap, and powers a huge trade surplus and 10 percent economic growth.

Inexpensive Chinese goods at Wal-Mart come at a steep, hidden cost. Those destroy U.S. factory jobs that are not replaced by new employment to make exports.

At the October IMF meetings, Germany and Japan rebuked U.S. requests for help in persuading China to stop intervening in currency markets. That was hardly surprising, as both profit from currency mercantilism too.

Through the 1980s and 1990s, the Bank of Japan intervened in currency markets to keep the yen, and auto exports, artificially cheap. Subsequently, it imposed near zero interest rates, and encouraged private investors to borrow yen, convert those to dollars and then purchase higher yielding U.S. Treasuries—a disguised variant of China's manipulation.

After the Federal Reserve moved to near zero rates, too, Japan made clear that it will intervene in currency markets should the yen fall too far, spooking speculators from betting on yen appreciation.

The German scheme is more complex.

Exchange rates translate the whole register of prices for goods and services in each country into the dollar, which is the international yardstick for pricing products and debt.

Germany is in the euro-zone with Portugal, Ireland, Greece, and Spain, whose economies are less efficient than Germany and sovereign debt is suspect. The risk one of their governments will default pulls down the value of the euro.

Were the Euro zone to split up, the value of the new deutschemark—and resulting dollar prices for German products on world markets—would be much higher than the current euro-dollar rate implies. Conversely, dollar prices for the new currencies of Greece and others would be much lower, and competitiveness of their products much stronger on world markets, than the current euro-dollar rate indicates.

The euro-zone permits Germany a de facto undervalued currency and huge trade surplus, and to lecture Mediterranean nations and the United States about the virtues of Teutonic thrift. Meanwhile, weaker euro-zone economies labor under de facto overvalued currencies and punitive austerity.

U.S. consumers and businesses are spending again but too much goes into imports instead of creating American jobs. Since the recovery began, the combined U.S. trade deficits with China, Japan and Germany is up 127 billion and now totals $448 billion.

With the Gang of Three stonewalling on currency talks, the U.S. economy is growing well below potential and unemployment hovers near 10 percent. Now, the United States has resorted to QE2.

The United States should tax purchases of yen, yuan and euro used to import goods from those three economies. Set it at about 40 percent until the Gang of Three agrees to acceptable exchange rate reforms.

At a recent dinner for western financial ministers, Secretary Geithner was told the Americans don't matter anymore.

Such a tax would inspire a different tune—perhaps, "God Bless America"—and a pilgrimage to Washington to strike a deal. ESR

Peter Morici is a professor at the Smith School of Business, University of Maryland School, and former Chief Economist at the U.S. International Trade Commission.




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