By Simon Johnson
As Congress debates the trade promotion authority, TPA, the issue of currency manipulation remains firmly on the table. The administration and Republican leadership insist that language discouraging currency manipulation should not be included in the TPA (and also not in the Trans-Pacific Partnership, TPP, a trade agreement currently under negotiation). Many Democrats and Republicans continue to argue in favor of prohibiting currency manipulation.
On Tuesday, the Treasury Department and White House claimed that the amendment proposed by Senators Rob Portman (R., Ohio) and Deborah Stabenow (D., Michigan) would actually impede the ability of the Federal Reserve to conduct monetary policy. This is absurd. The Portman-Stabenow amendment clearly and precisely addresses protracted one-way intervention in foreign exchange markets, i.e., large-scale purchases of foreign assets by a central bank. The Federal Reserve does not engage in such activities – nor will it engage in this kind of intervention in the foreseeable future. US monetary policy involves buying and selling domestic assets. The Fed does not buy foreign assets on any significant scale. There is nothing in this amendment that would impede the workings of US monetary policy. To suggest otherwise is to mischaracterize the nature of this amendment.
There are instead three main issues of substance worth further consideration.
First, can we measure currency manipulation? The answer here is clear: yes. It is true that there is often disagreement about the extent to which a particular currency is undervalued or overvalued (a point made by Ian Talley in the Wall Street Journal). But the most important episodes of prolonged competitive undervaluation are the ones that do the most damage – and in these instances, for example with China in the early 2000s – there is no disagreement.
A country with a massively undervalued exchange rate will accumulate a lot of foreign exchange reserves while running a current account surplus – and its stock of foreign assets will become large relative to its own economy (and relative to the world economy, if the country in question is big). There was really no ambiguity about what China was doing. Unfortunately, however, there were political problems that prevented the International Monetary Fund and the US Treasury from being sufficiently clear on the nature and extent of this manipulation. (I was the chief economist at the IMF from early 2007 through August 2008.)
Second, do countries currently manipulate their exchange rates on a massive scale? For the most part, the extent of manipulation is at a relative low (as Robert Samuelson argues in the Washington Post). But this does not mean that we should forget about this issue – the incentive to manipulate (keep an exchange rate undervalued in order to boost a country’s exports) will likely return in the future, for example when a country experiences a slowdown in growth. In fact, the Treasury Department is raising concerns along these lines with regard to South Korea’s current behavior.
And the fact that manipulation is relatively less important in country strategies at this moment – for example, in China and Japan – means that this is a good moment in which to negotiate the issue. This is not about confrontation with current policies; it is about preventing future action that can be damaging to the US economy.
When currency manipulation again becomes significant – and when it does great damage to parts of US manufacturing and to our service sector – it will be too late to attempt a negotiated response. Now is likely the best time to shift official thinking on what can be regarded as reasonable trade practices for the coming decades.
Third, if the US insists on addressing currency manipulation in the TPP, would this derail the agreement? No, it would not – precisely because the US would be taking up this issue in a constructive negotiated framework.
Look carefully at the countries involved in TPP – Australia, Brunei Darussalam, Canada, Chile, Japan, Malaysia, Mexico, New Zealand, Peru, Singapore, and Vietnam. All of them have a great deal to fear from other countries manipulating exchange rates so as to gain an unfair competitive advantage. If we can shift the rules so as to strongly discourage currency manipulation, this will help all our trading partners.
The most effective – and completely fair – way forward is to have countries voluntarily agree not to manipulate their currencies. Everyone understands that there is some leeway provided by how any such negotiated guidelines would operate (and how currency undervaluation is measured).
The point is to get our major trading partners to agree not to undervalue their currencies on a massive scale. When it next happens on that scale, there will be no ambiguity. But it will also be too late to do anything about it in a negotiated framework.
President Obama is right that the TPP is about writing the rules for the next century of international trade. We should want to get these rules right.