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Wall Street Journal: A dollar warning from Asia

Section: Daily Dispatches

Obama Gets an Earful About America's Super-Easy Money

Review & Outlook
The Wall Street Journal
Tuesday, November 17, 2009

Federal Reserve officials sometimes sound as if their only worry is the domestic U.S. economy, but their gusher of dollars is starting to have serious consequences for the rest of the world. Nowhere is this more evident than in Asia, where President Obama is getting an earful from leaders this week about what all those greenbacks are doing to their economies.

Many of these nations peg their currencies, formally or informally, to the greenback. So they are getting a huge dollar liquidity kick from the carry trade, in which people borrow U.S. dollars at exceptionally low U.S. interest rates and invest them for higher returns elsewhere.

As a result, Asia's stock markets are outstripping U.S. and European bourses by a country mile. Shanghai alone is up nearly 80% this year-to-date. Hong Kong property is climbing through the roof, with one recent apartment sale mooted at $57 million. Foreign investors are even getting enthusiastic again about one of the most corrupt emerging markets around—Indonesia—and dubbing it the "new China."

At a conference in Singapore, Hong Kong chief executive Donald Tsang—a former finance minister—said Friday he's "scared" about loose U.S. monetary policy. "Where is the money going—it's where the problem's going to be: Asia," Mr. Tsang said. "You can see asset prices going up, not only in Korea, in Taiwan, in Singapore, and in Hong Kong, going up to levels that are incompatible or inconsistent with the economic fundamentals."

On Saturday, China's top banking regulator, Liu Mingkang, chimed in that the Fed's binge is the main cause of "massive speculation." The risk is more asset bubbles and misallocation of global capital.

In response, the Obama Administration seems to be trotting out an updated if more subtle version of Nixon-era Treasury Secretary John Connally's famous quip that the dollar may be "our currency," but it's "your problem." Treasury Secretary Tim Geithner has been calling for a "strong dollar" but also for "market-oriented exchange rates." This mantra from the George W. Bush era has come to be understood as code that the Treasury wants a weak dollar.

President Obama reinforced that message in Tokyo Saturday when he called for "balanced trade," which suggests a weaker greenback to spur U.S. exports. Gold, a dollar hedge, hit an all-time high yesterday in response.

This is a dangerous game that could lead to some serious economic policy mistakes, not the least of which is the imposition of capital controls as countries try to stem the incoming tide of "hot money." Brazil did this last month, and Taiwan followed suit last week, freezing foreign investors' ability to place money in time deposits. Other countries may be tempted to follow. This impedes the capital liberalization that so many developing economies desperately need.

There is also the risk of a political backlash if countries conclude that the U.S. is trying to devalue for the sake of increasing its exports -- in effect, attempting to steal demand from the rest of the world. The last thing the world needs is beggar-thy-neighbor competitive devaluations, just as the global economy is getting back on its feet.

That's the message President Obama will hear in China this week. As the region's main exporter, China has tried to keep its currency stable against the dollar. But it's facing a flood of hot money as investors bet that Beijing will revalue the yuan. China may eventually conclude it must revalue to avoid importing dollar inflation, but to do so too quickly would slow its own recovery.

Americans may be tempted to take John Connally's view that none of this is our problem, especially when U.S. stocks are rising and Fed Chairman Ben Bernanke says there's nothing to worry about.

But that's a mistake. Asset bubbles that build and burst in Asia will eventually cause trouble here, much as they did in the Asian monetary crisis of 1997. And if Chinese leaders conclude the U.S. is deliberately squeezing their currency as a way to devalue away America's rising debt burden, they will find ways to return the offense -- perhaps on Iran, or North Korea.

The larger mistake is to believe that any nation can devalue its way to prosperity. As other currencies rise in value and force productivity gains, the U.S. economy will become relatively less efficient. American living standards will decline, as those in Asia rise. This is the real lesson of the Connally-Nixon devaluations of the 1970s and the inflation that followed.

The message of this Asian angst is that the Fed is running monetary policy not merely for the U.S. but for an entire dollar bloc. Asia is telling Mr. Obama and the Fed to run a more cautious monetary policy that will lead to fewer economic distortions, run fewer financial risks, and thus increase the chances that the fragile global recovery will become a durable expansion.

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