Economic Games: Foreign & Domestic The General's Monetary Absurdity
KENEN, PETER B.
Economic Games: Foreign & Domestic ?Two Articles The General's Monetary Absurdity By Peter B. Kenen Charles de Gaulle is capable of changing his mind. He finds it much harder to eat his words....
...In the short run, one fears, toward a host of troubles: Deliberate deflation in Britain and France, sluggish recovery in West Germany...
...Where do we go from here...
...The President-elect has already expressed his interest in planning for national security...
...Frenchmen will do penance for their sins—the strike and the wage settlement that ended it—by paying higher taxes and submitting to controls, including a border search for hidden currency...
...Governments believe that voters are more tolerant of high interest rates and taxes than of higher import prices (including, in the British case, higher prices for most foods...
...Everyone, that is, except the Germans...
...While appointing Henry Kissinger as an assistant, Nixon said contingency plans should be available "so that we may not just react to events when they occur...
...Nations that have known rampant inflation and with it, of necessity, drastic devaluations, tend to link the two...
...And the United States is apt to face new troubles as its badly weakened merchandise trade balance encounters the consequences of French and British measures taken to protect their currencies...
...and British exports would not fare so well in the French market...
...A devaluation, however small or necessary, is not viewed as an adjustment in economic policy, like a change in taxes, interest rates or tariffs...
...a combination of policies and trends that is bound to worsen our own balance of payments and bring forth demands for more protection?tariffs and quotas—that may not be anathema to the new administration...
...The Bonn coalition, facing an election and a challenge from the Right, is not prepared to anger every major interest group by making a conspicuous concession to foreigners...
...Proposals range from the demand for full flexibility (market determination) to a set of rules that would cause the rates to creep by a few percentage points per year when they get out of line...
...Some time must pass before we know whether the General can pull this off and what price France will have to pay to spare him humiliation...
...Finally, in Europe one meets another argument...
...For several years, a number of leading economists have been calling for more automatic changes in the pattern of exchange rates...
...Major changes in important exchange rates have occurred within the last decade...
...In the long run we may move toward significant monetary reform...
...One can also make a case against devaluation in the midst of an inflation, for devaluation helps to fuel an inflation...
...To be sure, devaluation of the franc would hurt the dollar and the pound: U.S...
...If, further, devaluation of the franc had been coupled to revaluation of the mark, the damage done by one would have been offset by the other...
...A modest devaluation of the franc could then have been defended as the unfortunate (but not absurd) cost of obtaining a revaluation that everyone desired...
...All acts are political, and unilateral devaluation is too conspicuous an act...
...Yet changes in exchange rates, while sanctioned by the formal rules and by past practice, are not sanctioned by opinion, professional or public...
...What new instruments of control, if any...
...Second, by stimulating aggregate demand (foreign demand for exports and home demand for import substitutes), it may strain capacity and the labor market...
...will be called into action...
...First, by raising the cost of living, it generates additional wage demands...
...Revaluation would reduce German exports and increase German imports...
...Until the present impasse, however, few bureaucrats or central bankers gave these plans support, and no one gave them any chance of implementation...
...Hence devaluation of the franc, a certainty on Friday, November 22, was an absurdity one day thereafter, just as it was one week before...
...France will defend the franc with all the rhetoric, and credit, the General can muster...
...In anticipation of this very injury, Britain has raised taxes, tightened credit, and imposed a hidden tax on all imports...
...It was the logical least-cost cure for France's immediate malady, and if coupled to a revaluation of the mark, would have done much to end a full decade of disPeter B. Kenen is chairman of the Economics Department at Columbia...
...dollars—in return for a revaluation of the mark...
...The pound was in trouble for more than three years, and all domestic policies had been deployed in its defense, before the Labor government fell back to $2.40...
...Will Nixon be more successful in managing the economy...
...France did devalue in 1958, but as part of a general European move toward convertibility and the Common Market...
...Management and labor fear the former, having just emerged from their first postwar recession...
...Too often, however, it is pure mythology, not rational political or economic arguments, that leads a country to defend the status quo...
...Few politicians, even statesmen, will willingly confess to failure, and that is how they and the public at large tend to view devaluations...
...But French austerity—the General's alternative —must also injure France's trading partners if it is to work at all, and the harm could well be greater...
...Secretary of the Treasury Henry H. Fowler may be a lame duck, but might have hobbled quite some distance to obtain agreement on the mark and franc...
...In addition, the Germans, could probably have bargained for an end to their special arrangements with the United States—to buy U.S...
...Soon after the devaluation, moreover, Home Secretary Roy Jenkins replaced Chancellor of the Exchequer James Cal-laghan as defender of the pound...
...All of that has changed...
...equilibrium in international payments...
...If he wants to avoid crisis diplomacy, perhaps he feels the same about a crisis economy and contemplates contingency plans in this area...
...We have been spared what seemed to be a damaging alternative: the very large and punitive French devaluation which Paris sometimes threatened if the Germans would not move...
...The answer, again, is political, though this time combined with sound economics...
...There is a beguiling quality to Louis Fisher, a new contributor, is an Assistant Professor of Political Science at Queens College...
...One can say right now, though, that the General is wrong...
...His contemptuous dismissal of devaluation is matched only by his general disdain for economists and for the facts of economic life...
...A change in the external value of the currency, even if quite small, can undermine confidence in that currency, leading to inflation, capital flight and therefore, another devaluation...
...What, then, moved the Germans to hold out against a revaluation, despite the importunings of their chief allies, the United States, Britain and France, and despite huge speculative pressures...
...Devaluation of the franc was not an absurdity, to be dismissed in a disdainful phrase...
...Furthermore, the speculators have begun to run for cover...
...In 1961, for example, the chief central banks gave credits to London to ward off speculative pressures on the pound resulting from the expectation that the small revaluation of the guilder and the mark would be followed by a devaluation of the pound...
...My addition of the one word "unilateral" calls for close attention...
...As the Republican candidate for President, Richard M. Nixon, scored valuable points by criticizing the Administration for economic mismanagement, inflationary policies, and bringing about a dollar crisis...
...On January 20, when the problems of inflation and gold outflow settle around his neck, the former critic becomes the new target...
...What was lost in the French market could be found in the German...
...France might well have devalued two weeks ago if Bonn had agreed to revalue the mark...
...French imports would have declined, but German imports would have expanded...
...The 1944 Bretton Woods Agreement, the constitution of the system, allows unilateral changes in exchange rates if kept within 10 per cent, and permits larger changes if they are approved by the International Monetary Fund...
...German farmers fear the latter, especially an increase of grain imports from France...
...Changes in exchange rates, like those discussed in Bonn last month, are thoroughly compatible with the rules governing our present monetary system...
...arms and hold U.S...
...In any event, economics certainly cannot explain de Gaulle...
...continued inflation in the United States, if not quite so rapid as in recent months...
...One would think, at first, that every argument against devaluation—economic, political and symbolic—would be convertible into an argument for revaluation by a major surplus country, and Germany has been the one large surplus country for the past few years...
...They may very well be right —but the voters may be wrong...
...This would offset the effects of the increase in French costs and prices caused by the wage agreement last spring (and the further increase that looms ahead as higher prices call forth a new round of wage demands...
...The franc was devalued in 1958, the mark and Dutch guilder were revalued in 1961, and the pound was devalued just one year ago...
...In 1967, the 14 per cent devaluation of the pound was a careful compromise between Britain's interest in a somewhat larger change and fears that a larger change would bring about similar devaluations in the sterling area and Continental Europe...
...French and German politics, one much less rational than the other, combined last month to prevent any sensible solution to a very serious monetary problem...
...To opt for the status quo is not to maintain it?and the status quo isn't satisfactory...
...Most observers—myself included—draw one major lesson from last month's debacle: Exchange rates are too unimportant to be left to politicians...
...In each instance, moreover, there was a conscious effort, tacit or explicit, to consult the interests of the other major countries, if only to avert retaliation...
...Devaluation of the franc—an increase in the number of francs that can be bought with a dollar, mark or pound—would decrease the foreign-currency prices of French goods, stimulating exports, and would increase the franc prices of foreign goods, inhibiting imports...
...But they will re-emerge if, as seems quite likely, France goes on losing gold or using up its credits...
...It is, instead, regarded as an act of contrition, an admission that ordinary policies have failed...
Vol. 51 • December 1968 • No. 24
