Two leading economists in Washington Friday offered compatible prescriptions for remedying the significant global imbalances that they believe threaten long-term economic growth.
The imbalance is a large trade surplus in Asia and large trade and budget deficits in the United States. Raghuran Rajan, chief economist at the International Monetary Fund, says because Asian currencies are mostly held steady against the U.S. dollar, exchange rates have not been allowed to perform their usual adjustment function. Mr. Rajan worries that at some point Asian governments may choose to stop using their surplus dollars to buy U.S. securities. This eventuality, he says, could have adverse consequences for world economy.
""Thus far the United States has been growing faster than the rest of the world so people have been willing to buy U.S. securities. In the 90s it was U.S. equities (stocks), now it has moved to U.S. government bonds. But it does pose a risk that one day investors wake up and say the U.S. economy doesn't look as good as I thought. And they start dumping U.S. assets, the dollar plummets and U.S. interest rates rise," he said.
Mr. Rajan says to avoid this scenario, the United States should cut its budget and trade deficits while Europe and Japan should boost their growth rates so their currencies are more attractive to investors.
John Williamson of Washington's Institute for International Economics advocates coordinated policy action in Asia, America and Europe. He believes a significant revaluation of Asian currencies is an essential requirement for righting the global imbalances. Mr. Wiliamson says it is not just the Chinese yuan that needs to rise in value. "It's a large appreciation (of the yuan that is needed) but it by no means the largest appreciation. One needs a whole series of Asian currency appreciations because there are a lot of Asian countries which have developed very large current account (trade) surpluses," he said.
Similarly, Mr. Williamson advocates a substantial decline in the value of the dollar to restrain U.S. imports and reduce the U.S. trade deficit. However, he believes that because the trade imbalance gets little attention among policy makers in Washington, the potential for a destabilizing financial crisis is large. Both Mr. Williamson and Mr. Rajan agree that China's fixed rate currency peg against the dollar is not the principal cause of the U.S. trade deficit.