Markets ‘Get It’, US Pundits Do Not

[This is a little old, as things go on the internet, but I wanted to blog about it anyway.]

In other venues, I have argued forcefully against the notion that the Chinese should be pressured to let the yuan appreciate to “cure trade imbalances” [see Robin Hanson]. This poor logic stems from a myopic view of exchange rates as trade policy.

However, allowing the yuan to appreciate amounts to deflationary monetary policy (and, presumably, fiscal stimulus must still work). In a time of slack world aggregate demand, and robust growth coming only from China, these pundits wish to view international macroeconomic policy as a zero-sum game. The view is if China wins, everyone else has to lose. This is not only untrue, but dangerous. Don’t take my word for it:

China’s central bank moved late Friday to reduce lending to companies and individuals by requiring large commercial banks to increase the amount of cash they park with the central bank. The move, which came earlier than most economists had expected, was meant to slow China’s breakneck economy and inflation.

The Bank of China raised the reserve requirement 50bp for the second time this year. This is the same deflationary policy that, when tried in the us in 1937, produced the “recession in a depression” How did international markets react?

Fears that China’s move Friday would slow global growth sent share prices sliding across Europe and pushed New York markets lower when they opened, though they recovered some of the losses. China’s commercial banks have become important lenders to the rest of the world as American banks have considerably reduced lending.

And keep in mind, US pundits are calling for China to institute even more deflationary monetary policy by allowing their currency to appreciate. Judging by the quote below, I have a sneaking suspicion that China’s central bank wanted to give a microscopic preview of the consequences of these erroneous calls:

“The timing is a surprise,” said Qing Wang, an economist in the Hong Kong office of Morgan Stanley, referring to the central bank’s action.

Let’s hope that cooler heads prevail.


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