Herr Doktor Professor is sounding more MMT by the day.
Strength Is Weakness
Paul Krugman, The New York Times
MARCH 13, 2015
We’ve been warned over and over that the Federal Reserve, in its effort to improve the economy, is “debasing” the dollar. The archaic word itself tells you a lot about where the people issuing such warnings are coming from. It’s an allusion to the ancient practice of replacing pure gold or silver coins with “debased” coins in which the precious-metal content was adulterated with cheaper stuff. Message to the gold bugs and Ayn Rand disciples who dominate the Republican Party: That’s not how modern money works. Still, the Fed’s critics keep insisting that easy-money policies will lead to a plunging dollar.
Reality, however, keeps declining to oblige. Far from heading downstairs to debasement, the dollar has soared through the roof. (Sorry.) Over the past year, it has risen 20 percent, on average, against other major currencies; it’s up 27 percent against the euro. Hooray for the strong dollar!
Or not. Actually, the strong dollar is bad for America. In an immediate sense, it will weaken our long-delayed economic recovery by widening the trade deficit. In a deeper sense, the message from the dollar’s surge is that we’re less insulated than many thought from problems overseas. In particular, you should think of the strong dollar/weak euro combination as the way Europe exports its troubles to the rest of the world, America very much included.
Currency markets, however, always grade countries on a curve. The United States isn’t exactly booming, but it looks great compared with Europe, where the present is bad and the future looks worse. Even before the new Greek crisis blew up, Europe was starting to resemble Japan without the social cohesion: within the eurozone, the working-age population is shrinking, investment is weak and much of the region is flirting with deflation. Markets have responded to those poor prospects by pushing interest rates incredibly low. In fact, many European bonds are now offering negative interest rates.
Who wins from this market move? Europe: a weaker euro makes European industry more competitive against rivals, boosting both exports and firms that compete with imports, and the effect is to mitigate the euroslump. Who loses? We do, as our industry loses competitiveness, not just in European markets, but in countries where our exports compete with theirs. America has been experiencing a modest manufacturing revival in recent years, but that revival will be cut short if the dollar stays this high for long.
In effect, then, Europe is managing to export some of its stagnation to the rest of us. We’re not talking about a nefarious plot, about so-called currency wars; it’s just the way things work in a global economy with highly mobile capital and market-determined exchange rates.
And the effects may be quite large. If markets believe that Europe’s weakness will last a long time, we would expect the euro to fall and the dollar to rise enough to eliminate much if not most of the difference in interest rates, which would mean severely crimping U.S. growth.