At last month’s trade conference and then on this blog, former Missouri Gov. Matt Blunt, now President of the American Automotive Policy Council, explained why US auto producers would like to link rules against currency manipulation to new trade agreements. “From an automotive perspective, currency manipulation both subsidizes our competitors’ exports to the US and around the world, and puts US exports at an equal cost disadvantage.”
He described growing congressional support. A filibuster-busting 60 US senators last month sent a letter to Treasury Secretary Jacob Lew and US Trade Representative Michael Froman asking for new enforceable rules in trade agreements to attack currency manipulation. A majority of House members signed a similar letter in June.
Blunt and the senators cite a Peterson Institute study arguing that foreign currency manipulation has already cost between one and five million jobs. “A free trade agreement purporting to increase trade, but failing to address foreign currency manipulation, could lead to a permanent unfair relationship that further harms the United States economy,” the senators write.
But how would such a policy work? Will we have trade dispute panels sitting in judgment of core macroeconomic policies? Should we be fixated today on the economic philosophy of Roberto Azevêdo (new head of the World Trade Organization) rather than Janet Yellen?
If every currency depreciation were accompanied by a finance minister shouting: “Ha! Take that you foreign exporters!” then the manipulation determination would be relatively easy. In practice, however, currencies can move for any number of reasons. Fixed exchange rates can deviate from “ideal” values when central banks are slow to move them, or when countries have different inflation rates. Market-determined currencies can swing with trader sentiment, or depreciate when central banks drop interest rates or engage in quantitative easing.
What happens if a central bank decides an economic recovery is too slow and unemployment is too high and it responds with massive purchases of bonds and other financial instruments? Such a move is highly likely to drive down its currency. Will that country be guilty of manipulation?
If you were thinking of Japan while reading that last paragraph, you were thinking like a member of Congress. If you were thinking of Chairman Bernanke’s September decision to postpone tapering, you were thinking like finance ministers all around the world. When the United States first engaged in quantitative easing, it was Brazil’s finance minister, Guido Mantega, who decried the launch of “currency wars.”
In fact, the world trading system already has a rule governing currency manipulation. It says that a country’s exchange arrangements should not frustrate the intent of the agreement. Adjacent provisions say, roughly, ‘We have no idea what this means; please ask the International Monetary Fund.’
Herein lies the problem. There is no agreed-upon proper value for a currency. One can construct some useful reference values, like the exchange rate that would make a specific bundle of goods in Japan cost the same as an identical bundle in the United States (so-called ‘purchasing power parity’). But there is no good economic reason to demand that such rates hold all the time. Further, market-determined exchange rates fluctuate so much that no reference value will be held for long. There have been attempts to set multilateral currency policy standards – at least implicitly – as recently as the G-20 meetings in Seoul in 2010. They failed. If a trade dispute panel were to sit in judgment on a currency manipulation case, it would have very little guidance in how to rule.
The core problem with Congress’ recent approach is the belief that any determinant of trade flows ought to be subject to international regulation. In the past, trade rules carefully distinguished between measures that specifically supported a product or industry (such as a production subsidy) and broader policies that affected costs (such as education or roads). Monetary policy and exchange rates properly fall in the latter category.
Congress has constitutional authority over trade and needs to be taken seriously on this. There may be a case for another attempt at tighter global rules governing countries’ monetary policies. With a little reflection, though, we will probably decide we do not want those rules to be written and enforced by small committees of international trade lawyers.