October 03, 2013
We know that the people who conduct and write about economic policy are not very good at economics, otherwise we would not still be mired in this downturn almost six years after the start of the recession. The Washington Post gave us another example of the incredible confusion that dominates Washington debates in its coverage of the budget and debt ceiling standoff.
The piece warns that a debt default could jeopardize the status of the United States as the world’s reserve currency. At one point it quotes Lloyd Blankfein, the CEO of one of the bailed out Wall Street banks, giving a stern warning on the topic.
The implication of course is that the United States benefits from being the world’s reserve currency. This is not obviously true.
The increased demand for dollars as a result of being a reserve currency raises the value of the dollar. Higher demand leads to higher prices. (Sorry for the repetition of simple concepts, but there could be some economists reading.) A higher valued dollar makes our exports more expensive to people living in other countries. This means that we will have fewer exports. A higher dollar means that imports will be cheaper for people living in the United States, which means that we will import more goods.
Fewer exports and more imports mean a larger trade deficit and less demand in the domestic economy. That in turn means lower GDP and higher unemployment. This increase in unemployment hits middle and lower income workers especially hard, since they will not be in a position to achieve wage gains during periods of high unemployment. On the other hand, high unemployment and the resulting low wages could be good for corporate profits and highly paid professionals like doctors and lawyers.
There is not only reason to believe that having the dollar as the major reserve currency is bad for the economy, it is also contrary to stated policy. Ostensibly the Obama administration has been pushing to have China raise the value of its currency against the dollar. (For the directionally challenged, that means a lower valued dollar.) The line coming from the administration is that we always press China to raise the value of its currency, but they are just stubborn and won’t do what we ask.
Of course if the dollar stopped being the world’s major reserve currency then we would likely get what we are ostensibly asking for in our negotiations with China. The dollar would fall in value against China’s currency and against the other currencies where many have suspected “manipulation.” In other words, ending the dollar’s status as the world’s major reserve currency would allow us to achieve a lower valued currency, which has supposedly been a major policy goal in negotiations with China as well as some other countries.
So ending the dollar’s status as the world’s reserve currency could boast growth and create jobs and would be consistent with longstanding goals of both the Obama administration and Bush administration for ending currency manipulation, but we are supposed to be scared that it could be an outcome from a debt default. Like I said, people doing economic policy are not very good at economics.
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