Don't Buy Currency Devaluation? It's Been Done Before

Tuesday, 07 December 2010 16:34 By Paul Krugman, Krugman & Co. | Op-Ed | name.

Don
(Image: CartoonArts International / The New York Times Syndicate)

Hard-money types tend to take a sort of "Lives of the Saints" approach to history.

They reverently reference certain iconic examples of hyperinflation (Weimar Germany! Zimbabwe!), while remaining utterly ignorant of all examples to the contrary.

Take Representative Paul D. Ryan of Wisconsin, the ranking Republican on the House of Representatives budget committee. It's a good bet that he doesn't actually know much about monetary history.

In a Nov. 21 story from the Milwaukee Journal Sentinel about his strong opposition to the Federal Reserve's plan to pump another $600 billion into the economy, Mr. Ryan posed an interesting question: "Name me a nation in history that has prospered by devaluing its currency."

Well, let's look at an analysis first pointed out by Menzie Chinn, an economics professor at the University of Wisconsin, when he took up Mr. Ryan's challenge.

In March 2009, Barry Eichengreen, a professor of economics at the University of California, Berkeley, wrote in The Guardian: "In the 1930s, it is true, with one country after another depreciating its currency, no one ended up gaining competitiveness relative to anyone else. And no country succeeded in exporting its way out of the Depression, since there was no one to sell additional exports to.

"But this was not what mattered," Eichengreen wrote. "What mattered was that one country after another moved to loosen monetary policy because it no longer had to worry about defending the exchange rate. And this monetary stimulus, felt worldwide, was probably the single most important factor initiating and sustaining economic recovery."

My question is this: Why go back to the 1930s for examples?

— How about Britain, which saw a strong recovery from its economic doldrums after it devalued the pound against the mark in 1992?

— And Sweden, which recovered from its deep banking crisis in the early 1990s with an export boom, driven by a devalued kronor?

— And South Korea, which roared back from its 1997-1998 economic troubles with a strong export boom, driven by a depreciated won?

— What about Argentina, which also roared back from its 2002 crisis with an export boom, driven by a depreciated peso?

And the list continues.

The truth is that every financial recovery since World War II that I know of was driven by currency depreciation.

In fact, this is the biggest reason for pessimism now: due to the global scope of this crisis, the usual exit is blocked.

Now, I'm sure that naysayers, especially the gold bugs, will somehow come up with new ways to explain away all these historical events.

At that point, however, I think we are just not learning from history.

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BACKSTORY: Bernanke Gets Political

According to longstanding tradition, the United States Federal Reserve has mostly been kept isolated from the tense sphere of partisan politics. But following the November midterm elections, the bank's role in the U.S. economy has often come under attack from Republicans and Tea Party followers. Ben S. Bernanke, Fed chairman, has increasingly found himself in the unusual position of having to defend himself and the actions taken by the reserve bank to stimulate the economy and job growth.

Leading the critical response in the United States is Representative Paul D. Ryan of Wisconsin, the ranking Republican on the House budget committee. He will likely become the committee's chairman in January.

Not only has Mr. Ryan said that the Fed's next monetary policy move — adding $600 billion to the U.S. economy by buying Treasury bonds through June — will drastically heighten inflation at home, he has also pointed out that a devalued dollar will weaken the United States's standing with other nations like China and Germany, whose economies rely heavily on exports. Officials representing those nations have joined Mr. Ryan in expressing their disapproval of the impending Fed action.

"There is nothing more insidious that a government can do to its people than to debase its currency," Mr. Ryan said in an article published on Nov. 21 in the Milwaukee Journal Sentinel.

Mr. Bernanke insists that these measures are necessary to create jobs in the United States and boost disappointingly slow economic growth.

With interest rates near zero, the $600 billion quantitative easing plan is one of the few monetary policy tools the Fed has left. To get this message across, the Fed chairman has taken an unusually active role — including meeting with members of the Senate banking committee and traveling to Germany in late November in order to cultivate allegiances with officials there.

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Paul Krugman joined The New York Times in 1999 as a columnist on the Op-Ed page and continues as a professor of economics and international affairs at Princeton University. He was awarded the Nobel in economic science in 2008.

Mr Krugman is the author or editor of 20 books and more than 200 papers in professional journals and edited volumes, including "The Return of Depression Economics" (2008) and "The Conscience of a Liberal" (2007).
Copyright 2010 The New York Times.

Last modified on Tuesday, 07 December 2010 16:34