The reform of the central bank charter was necessary for growth and stability

By Sergio Cesaratto, Marc Lavoie and John Weeks

“Give me a one-handed economist! All my economists say: on the one hand… on the other…” once famously said the U.S. President Truman. In his interview to La Nación professor Lance Taylor provides the perfect example of a two-handed economist: he supports growth, but he warns of the dangers of inflation; he approves of a central bank that cooperates with fiscal authorities, but he warns of excessive public spending; he gives his support to import controls, but he warns of their possible “micro-inefficiencies”. Professor Taylor thus plays the two-handed game of criticizing whatever the Argentineans could possibly do, even if we are not completely convinced that he actually said in the interview that he is in favor of an Independent Central Bank, as the headline would make you believe.

Of course we share, and we are sure that the Argentinean government shares, some of these preoccupations – although we are less concerned with the idea that import controls only protect domestic inefficient sectors. To begin with, comparing Argentina with Europe, where the inability of the Central Bank to cooperate with the national treasuries has created the crisis, Argentina looks pretty good, with a central bank that is mandated to cooperate with the democratically-elected government to pursue growth and employment rates that are consistent with the lowest possible inflation rate. In Europe, a non-cooperative European Central Bank has let interest rates on sovereign debt jump to unsustainable levels. In that respect the Argentinean central bank acts more like the North American Federal Reserve.

In addition, European central bankers and political leaders have advocated austerity measures that are causing a serious recession and that exacerbate the public budget problems caused by the financial crisis, very much like Argentina did during the Convertibility period, in which the former Central Bank Charter was imposed. By contrast, in Argentina now, there is a pro-growth central bank that carefully uses its foreign exchange reserves to reduce the needs of the government to borrow on international financial markets, and that wishes to sustain domestic investment through a public investment bank. This can only be good news.

Nobody would deny the importance of a competitive real exchange rate to sustain exports and favor the development of a competitive manufacturing sector. We believe that the reliance of exports on the vagaries of soya prices and harvests is a preoccupation of the Argentinean authorities too. Many Argentinean economists are however skeptical about the positive effects of currency depreciation on manufacturing exports; instead they are more concerned about the inflationary effects that exchange depreciation might have in a country like Argentina, with its strong tradition of labour militancy in defending real wages. They also warn that a policy of real wage compression through a depreciating exchange rate, if successful, would depress domestic consumption, growth and unemployment, with little compensation from an unlikely export-led boom. So, in any case, the objective of a competitive exchange rate should not be accompanied by restrictive fiscal and monetary policies, but rather should be accompanied by income policies that would preserve real wages.

Finally, the government with the support of many economists, in its attempt to diversify the export sector and reduce the import dependence, is relying on a pro-active industrial and trade policy, rather than relying on the real-exchange-rate-depreciation cum fiscal-contraction model proposed by critics. One cannot forget that Brazil has public control of long-term finance through BNDES, and that given Argentina’s higher GDP growth rate, the Argentinean government might have legitimate reasons to impose imports controls. As to the inefficiencies allegedly brought about by import substitution policies and import controls, the de-industrialization outcomes of decades of neo-liberalism are a much worse heritage. We do favor, in general, a more depreciated exchange rate to reduce the external constraint, but because devaluation is inflationary, on the cost side, and there often is wage resistance, one must be moderate. Exchange rates are only one price, and the notion that there is a perfect level that would solve everything, leading to growth, stability and sustainable current account by itself, might be a chimera.

Originally published in Página/12 (in Spanish).

On China and Jobs

It is true that whenever the economy grows trade deficits tend to become larger, and the United States, which has had persistent deficits since the early 1980s, is particularly prone to those. Dean Baker has been the most vocal defender of a weak dollar (mostly as measure to boost local manufacturing jobs, since a depreciated currency protects local production; here for example a recent piece). Krugman too has recently argued for a more depreciated dollar and also for trade restrictions against China (see here for a recent one).

In all fairness, I have a few concerns with these line of thought, and not because I am (or ever was) a "free trader", like Krugman (by the way Free Trade is a terrible misnomer and there are serious problems with the conventional arguments for it; theme for another post, I guess).

First, in the case of China, the exchange rate has appreciated a lot since the crisis as can be seen in the graph below (Data from the Economist Intelligence Unit).

Further, when measured by changes in wages (labor costs) the real appreciation since 2007 has been of around 27%, 10% more than when measured by prices, since real wages grow relatively fast in China. Further, China has grown since 2007 at an average of 10.5% per year. In other words, China is growing and revaluing its currency; not sure what more can be expected on that front. Blaming China for lack of fiscal stimulus in the US seems, not just futile, but wrongheaded.

Another important point often missed in these discussions of the exchange rate is that a depreciated currency, everything else constant (economists do like a ceteris paribus condition) implies lower real wages, since imported goods tend to be part of the workers' consumption basket. Hence, if you favor a depreciated dollar, but tend to be for workers (which are getting to bear the brunt of this crisis, as is always the case), then compensating measures are needed to increase real wages without reducing competitiveness (other costs must be reduced, or profit margins would have to be squeezed; that's just the algebra).

Finally, my perennial question, raised before here, so if US deficits are larger, but we give the Chinese dollars, and they hold dollar denominated assets, what's the downside again?

PS: Concerned about the dollar? Go here.

Krugman on manufacturing deficits



Krugman correctly points out that depreciation has had a role in the reduction of the manufacturing trade deficit in the US (above).  However, he forgets to say that the recession was also instrumental in reducing the deficit.  While he is correct that those that are afraid that depreciation would lead to the collapse of the dollar (a hysterical exaggeration), and do not see the positive role of a depreciation, it is also true that the reduction of the deficit is not all good news. A reduction that results from a recession is hardly good news.

Note also that it is important to explain why the manufacturing sector is key for the economy. Nicholas Kaldor used to argue that it is manufacturing growth that drives productivity change (and that productivity in agriculture and services is derived). In that sense, as I noted before, even though employment in the sector have shrunk and the trade balance in the sector has been perennially negative, the US is still the leading innovator in the sector.