What Does a True Recovery Look Like?

John Plender in the Financial Times says that the way global finances look now certainly isn't it:

To escape from the global imbalances that are at the root of this financially induced recession, creditor countries need to stimulate their economies while the mainly Anglophone debtor countries moderate their excesses.

Japan, China and Germany, the biggest surplus countries, have, in the event, embarked on greater domestic stimulus than some had expected. Yet the US stimulus remains disproportionately large, while investors are looking to the already heavily indebted American consumer to do more to drag the world out of recession.

This does not amount to a sustainable exit strategy and in policy terms looks curiously like a re-run of the early 1930s in reverse. Then, countries that adhered to the Gold Bloc matched deflation in the US with their own deflationary response. Today, an exchange rate regime where many Asian currencies are pegged to the dollar means that asset price inflation in the US is being matched by asset price inflation in Asia.

There is an echo here of the debate at Bretton Woods, where the postwar international financial architecture was thrashed out in 1944. In the negotiations, John Maynard Keynes for the UK tried to secure an international adjustment mechanism that was as tough on countries that ran persistent surpluses as on countries that ran persistent deficits. Such was the weakness of the UK's economic position that Harry Dexter White, the US Treasury secretary, prevailed.

The US was the world’s biggest surplus country and expected to continue that way. So the Bretton Woods agreement incorporated no sanctions on surplus countries and no real incentives for adjustment by countries that persistently piled up reserves. Bretton Woods did not last very long. Current exchange rate regimes look no more durable. Meantime, the risk that mercantilist exchange rate policies will prompt trade retaliation remains high, as does the risk of investor disappointment if US consumers choose to continue to rebuild their savings. They have no obligation, after all, to embark on a further binge purely to justify share prices that have run ahead of events.

The issue of how American consumers were going to act following the Great Recession is one we at NDN have written about quite a bit. For more, take a look at: