September 26, 2003

Stephen Roach Has Hopes and Fears

Morgan Stanley's Stephen Roach likes Treasury Secretary Snow's new policy of talking down the dollar:

Morgan Stanley: As expressed in Dubai, the G-7's vision of market-determined exchange rates fit the script of global rebalancing like a glove.  It promised the one shift in relative prices -- a weaker dollar -- that a lopsided, US-centric world so desperately needs.  For a world beset by massive and unsustainable external imbalances, the G-7 recipe offered the best possible endgame -- a balanced global economy.  It was the perfect ending to my bad dreams of the past four years.

It's not clear why he likes it. As I've said before, there are two ways of announcing changes in exchange rate policy. The first is to announce that monetary policy will be different--say, if Chairman Greenspan were to say something like:

One of the considerations impelling the Open Market Committee toward continued monetary ease for a considerable period of time is the sense that the appropriate value of the exchange rate should produce a trade balance equivalent to desired fundamental long-term capital flows; and that the current level of the U.S. exchange rate seems to be associated with a perhaps excessive inflow of short-term finance into the United States.

A crystal-clear and easily-comprehendable announcement like that would lower long-term U.S. interest rates, reduce the value of the dollar, provide some small stimulus to aggregate demand, and start the process of "rebalancing" that Stephen Roach so dearly wants to see. But that's not what Treasury Secretary Snow did: he added risk to investments in dollar-denominated securities, and so boosted U.S. interest rates and generated a small reduction in U.S. aggregate demand while--I think--doing nothing to shrink the difference between the dollar's current value and its long-run sustainable value.

Roach seems to be focusing on the size of the capital inflow and the U.S. international net asset position. But the important thing is not their magnitudes, but the gap between their current magnitudes and long-run sustainable levels.

Posted by DeLong at September 26, 2003 09:17 AM | TrackBack


Considering the high US productivity and good growth prospects relative to Japan and Europe, there seems to be little "difference between the dollar's current value and its long-run sustainable value". Japanese officials today said that they saw the Yen as too strong, Europeans said that Euro after recent weeks strengthening against dollar now is fair valued.

Graphs and links at:

Posted by: Mats on September 26, 2003 10:20 AM

The point is that other nations are NOT going to allow a competitive devaluation of the dollar. China has not allowed it, and the fall of the dollar against the Yen has been small this year and is likely to be stopped. The fall of the dollar against the Euro this year has been greater, but is not too important in terms of American trade. Competitive devaluation of the dollar is jusy not likely to be allowed.

Posted by: anne on September 26, 2003 11:12 AM

anne - watch out the 10yr; is it going outside your 4.00-4.50 interval ;)

Posted by: Mats on September 26, 2003 11:31 AM

Do you take the decline in interest rates as a reflection of a slowing of growth? I am thinking we may have lost the growth momentum of June and July after the middle of August.

September is looking as though we will have yet another month of job losses. Where is the growth in demand to come from?

Posted by: anne on September 26, 2003 11:51 AM

The 10 year treasury appears headed for 4% yet again....

Posted by: anne on September 26, 2003 11:57 AM
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