by Dirk Ehnts
The latest book by Barry Eichengreen deals with the rise and fall of the dollar, as the subtitle helpfully adds. I must admit that I am not much bothered by the status of a currency as the world’s reserve currency. Yes, if other nations keep part of their wealth in US-dollars (cash, not other assets) this amounts to an interest-free loan, and yes, you can import almost as much as you like. However, while the advantage of the first fun fact is small economically, the second fun fact can lead to huge problems, as the US financial crisis 2007-09 has shown. It’s not so much the total amount of debt that matters as the quality of that debt.Barry Eichengreen does an excellent job by going through history chapter by chapter – from the beginnings of the dollar to its time of dominance (post-WWII), and the subsequent rise of the euro (and before that, the ECU) and the Chinese yuan. In the last chapter, he spells out scenarios for a possible crash of the dollar. Among them are the use of financial weapons by China, out-of-control budget deficits, and animal spirits creating a panic. A very interesting story about the financial side of the Suez crisis is told under the title ‘East of Eden’ (p. 154), about the US bullying the UK to withdraw its troops from the Suez canal.
In the last section, Eichengreen argues that a decline in the dollar will lead to more exports, which is the standard argument from economics about international adjustment. However, that idea is from an ideal free trade world in which there is neither currency manipulation (China) nor suppressed wage growth with the goal of maximizing exports (Germany). It remains to be seen whether we stay in a mercantilist world of reserve accumulation and wage suppression, where this logic does not automatically apply. If so, adjustment may come from the political side, as Argentina and other countries with high income inequality have shown in the past. After all, Barry Eichengreen diagnoses a problem of income inequality in the background of the crisis.
It would certainly have enriched the book to look at the rise in US inequality, its drivers and its consequences. Countries sometimes cannot solve their distributional problems given some set of institutions, and the process of redistribution then takes the form of macroeconomic troubles, like high inflation, high interest rates and credit rationing, a fall in the exchange rate and capital flight. Some of these issues are mentioned by Eichengreen, who points at rising budget deficits and the inability of part of the US political establishment to recognize the reality. After all, economic growth is what Eichengreen recommends for the US to keep its position as the global superpower. If that can be achieved, financial problems will begin to fall away. However, it is not so clear how economic growth can be brought about. A relative depreciation of the dollar is, once again, very likely to be a main ingredient, though.
Dr. Dirk Ehnts is a research assistant at the Carl-von-Ossietzky University of Oldenburg (Germany). His focus is on economic integration and economic geography, covering trade, macro and development. He is working at the chair for international economics since 2006 and has recently co-authored a book on Innovation and International Economic Relations (in German). Ehnts has written at his own blog since 2007: Econblog 101. Curriculum Vitae.