The full text on this page is automatically extracted from the file linked above and may contain errors and inconsistencies.
THE INTERNATIONAL ECONOMIC AND MONETARY SITUATION
Remarks of Robert P. Forrestal
to
The Quarterly Briefing
Southern Center for International Studies
September 3,1986
I. Introduction
A. The three main international economic issues as I see them involve the
currency system, protectionism and other impediments to world trade flows,
and LDC debt.
B. These are all, of course, interrelated but I think each one has it own unique
dynamics and importance.
II. Changes in the foreign exchange system are a source of concern and confusion.
A. First, with regard to the considerable currency realignment we've had,
confusion arises from the fact that our foreign trade deficit has not diminished
to the extent many anticipated when the dollar began to fall a year and a half
ago.
1. One reason is that currency realignments affect trade flows with a lag,
though many people expected more of a response by this time.
2. This unexpected delay can be explained in part by the increasingly
prominent roles played by the Asian nations of Taiwan, South Korea, and
Hong Kong, which together accounted for $24 billion—or 16 percent—of
our $149 billion deficit in 1985 and by the fact that against their
currencies the dollar has changed very little, whereas since February
1985 it depreciated some 40 percent against the yen and by almost as
much versus the Deutschemark, the traditional benchmarks.
3. Similarly, the U.S. dollar has actually appreciated slightly against the
Canadian dollar. Our trade deficit of $22 billion with Canada in 1985
was roughly 15 percent of the total.
4. Thus while we might hope for some improvement vis-a-vis Japan, which
accounted for about one-third of our 1985 deficit, and Germany with
about 8 percent, it is unclear how much improvement we can expect,
especially in the near term.
a. Certainly the latest U.S. merchandise trade numbers are not
encouraging.
b. On the other hand, the situation with Taiwan could improve
somewhat.
(1) Their enormous foreign exchange reserves of $32 billion
garnered from continuing trade surpluses continue to exert
-
2
-
downward pressure on the dollar relative to the taibi ("Tiebee").
(2) Anecdotal evidence suggests that prices of Taiwanese
manufactured goods may rise as well, since factories are
flooded with orders as Japanese firms, pressed by greater
production costs at home, compete with other foreign
purchasers for factory output.
B. A second currency-related issue concerns the entire system and especially
whether we should stick with floating rates or return to a fixed-rate system.
1. To some the large trade and current account deficits have raised the
specter of an uncontrolled "free fall," a prospect that I consider unlikely
but certainly a cause for concern.
2. Nor do I view present developments—or recent volatility of exchange
rates—as reasons for returning to a gold standard or to the type of fixed
exchange system employed until the breakdown of the Bretton Woods
arrangement in the early 1970's.
3. Experience, as well as economic theory, has taught us that free markets,
or even relatively free markets, adjust better to shocks than
bureaucracies do.
4. Nonetheless, I find merit in proposals to intervene when necessary to
keep exchange rates within fairly wide "target zones" so that they do not
become grossly misaligned.
III. The second major issue has to do with trade flows.
A. World trade patterns show some serious imbalances, with large U.S. deficits
matched by excessive surpluses in other countries.
1. One solution is for Europe and Japan to stimulate their domestic
economies toward the end of providing better markets for goods from
other countries and thus maintaining or strengthening worldwide growth.
2. Despite the decline of the dollar, sluggish demand in those two areas has
frustrated growth of U.S. exports to them.
3. It is noteworthy that the last two cuts in central bank discount rates
have been made unilaterally by the United States, a departure from the
unified actions taken earlier in the year.
4. Even should such stimulative measures be taken, however, it is unlikely
that our relationship with Japan in particular will change dramatically.
a. An island nation short on natural resources, Japan is dependent on
imports of oil and raw materials.
(1) These it buys from the LDC's, running a trade deficit with
those countries in so doing.
-
3
-
(2) In order to maintain the surplus necessary to pay for these
bilateral deficits with LDCs, Japan exports manufactured
goods to advanced economies especially.
b. There are also financial flows that parallel the trade flows and
these cannot be corrected simply by currency changes but involve
underlying policy, particularly fiscal policy.
(1) Japan has a surplus of savings
(a) With a population over half that of the United States
crammed into an area about the size of Montana, and a
largely mountainous area at that, Japan lacks the
physical space to support the type of consumer economy
based on expansive suburban dwelling we enjoy in this
country.
(b) Cultural and demographic patterns there make it
necessary for individuals to save for their retirement
creating a high demand for savings instruments.
(2) Meanwhile, the U.S. has been increasingly in need of savings
to meet its investment and financing needs because U.S.
consumers have a lower rate of savings and deficit spending
by the federal government in the 1980s has increased our
financing needs enormously.
(3) As a result, in the past few years, nominal interest rates on
Japanese bonds have been consistently lower than yields in
the U.S. Recently, the gap between yields on U.S. treasuries
and Japanese government bonds has been about 2 percentage
points. Not surprisingly, the better yield, good security and
enormous liquidity of U.S. treasuries have attracted the
concerted attention of Japanese institutional investors.
(4) The resulting capital flow from Japan to the United States is
the counterpart of a significant portion of the U.S. trade
deficit with that country.
(5) Thus a change in America's savings habits and a reduction in
our large government deficit as well as a currency
realignment will be needed to improve our trade balance and
even then there are limits to the amount of improvement we
can hope to achieve given that country's need for imported
raw materials.
B. Protectionism. Concerns over the trade deficit have led to emotional calls for
new tariffs to protect American industries from what is viewed as unfair
competition.
1. It is thought by some that the cause of our imbalance in trade lies in
protective measures abroad which stifle U.S. exports and in subsidies
used by foreign governments to lower prices of goods produced in their
factories.
-4 -
2. Certain industries, it is true, suffer directly from protective measures
abroad, our agriculture being a case in point.
3. The hard reality remains, however, that by erecting trade barriers aimed
at shoring up particular industries, one engages in an inevitable spiral of
retaliatory measures from countries whose export trade is hurt by the
original rise in duties. In the long run, consumers across the board bear
the cost in higher prices for the initial effort to protect.
4. In response to the call for protection, we would be better served as a
nation to adopt measures designed to improve productivity of domestic
industries and ease the strains of adjustment away from industries in
which an advanced economy like ours is losing its comparative advantage
to developing nations whose cost structures are lower.
a. In fact, we have been moving in that direction for some time:
(1) overall manufacturing has remained a fairly constant 43
percent of GNP, but fewer workers are needed in the process.
(2) In this way we are becoming in effect more productive.
b. At the same time, the service sector is growing as the economy
makes its transition from activities that were most efficient for
our labor force to perform previously to those which make the most
sense in the current environment.
c. In a market economy, such change is a recurrent pattern and not
something we should face with trepidation.
d. The services we perform are of value as exports, especially the
scientific and technical expertise at which we continue to excel.
e. What we can ask of our trading partners is that they protect our
rights to intellectual properties through increased vigilance over
copyright and patent infringement. This would allow a significant
share of what we now "export" without reward to be compensated.
5. Another hopeful sign on the trade front is the new round of GATT
a. Although nonmarket economies pose special challenges to the very
essence of GATT's free trade principles, I look with enthusiasm on
the efforts of nonmarket economies like China and the U.S.S.R. to
be included in these talks.
(1) China will participate in this round as an observer but is
seeking full membership status in the future, and the Soviets
are examining the prospects of joining the treaty group.
(2) The broadening of GATT should lay the groundwork for
advancing trade on a global basis.
b. More importantly, the agenda for this meeting should include:
4 *
-
5
-
(1) the subjects of services and intellectual properties mentioned
a moment ago
(2) the widespread subsidization of agriculture that is
contributing to worldwide surpluses and depressed farm prices
(3) the future of several countries currently enjoying the status
of LDC but which no longer require special exemptions in
light of their recent development.
IV. LDC debt—for some countries remaining in the "Less Developed" category, the
question of their inordinate external debt must be addressed as one of the major
international economic issues.
A. In my opinion, no crisis looms
1. In the case of Mexico, which carries the most serious debt problem,
recent strategies advanced by the IMF and internal efforts to restructure
the economy suggest that other countries in similar straits should be able
to make accommodations.
2. While low oil prices continue to hurt Mexico, other LDC's with debt
burdens—Brazil, for example—benefit from lower energy costs coupled
with current low rates of interest.
B. However, these countries need to grow in order to absorb the American
exports that could raise their productive capacity and satisfy consumer needs.
1. 25 percent of world trade involves the LDC’s—a portion without which
the global economy would contract to the detriment of all.
2. Indeed, the loss of large shares of Latin American markets due to
inability of citizens there to purchase our goods has hurt our trade
balance in a way that is often unreported due to concentration on Asian
and European competitors.
V. Conclusion. Constant vigilance is as much the price of a free market as it is of a
democracy.
A. Vigilance, rather than regulation, should maintain balance in the currency
system and allow the market, the best arbiter we know, to continue setting
exchange rates.
B. Policy actions on LDC debt have already returned a measure of stability to
what had been a near crisis, and I expect our attention to the situation to
remain taut.
C. Finally, the international market calls for vigilance against the sentiment of
protectionism that would inevitably erode the relatively open commerce which
has raised standards of living around the globe during the post World War II
era.
@FedFRASER