China’s President Hu Jintao is visiting the United States this week. This means we can count on two things: 1) a proliferation of Hu/who jokes (think: Abbott and Costello, “Who’s on first?”); and 2) disputes about the respective monetary policies of the two countries.
Chinese officials gripe about the Federal Reserve’s cheap-dollar policy. American officials denounce China’s policy of preventing the yuan from appreciating vis-à-vis the dollar. The fact is that both China and the United States are currency manipulators. Like a dysfunctional couple, the two constantly squabble, each complaining about the other’s shortcomings while ignoring their own.
In this latest round of bickering about currencies, Hu told reporters that the dollar’s dominance in the world currency markets is a “product of the past.”
Literally, this is indisputable. In 1944, the Bretton Woods agreement established the dollar as the international reserve currency. What rankles some Americans, though, is Hu’s clear implication that dollar dominance is a relic of the past, that the buck is a “has-been” in terms of suitability for serving as the world’s reserve currency.
While we may resent a foreign leader taking this stance, Hu is correct. At the time of Bretton Woods, the adoption of the dollar as the anchor for the global monetary markets made sense. The United States accounted for more than a third of the world’s economic production, had abundant gold reserves backing our currency, and expressed a readiness to redeem dollars for gold that made the dollar “as good as gold.”
The situation has changed radically since then. As other countries experience explosive economic growth, U.S. dominance correspondingly diminishes. Even more to the point, this isn’t your grandfathers’ dollar. It has been nearly 40 years since President Nixon reneged on our solemn promise to redeem paper dollars with gold upon demand by our foreign trading partners. Decades of government over-spending and currency debasement have produced a diminished, sickly dollar that—far from providing stability to global currency markets—produces uncertainty, disruptions, and losses throughout the global economy.
At some point, the dollar will cease to function as the world’s reserve currency—not because of any demands by Chinese leaders, but of necessity. The dollar is on a path of self-destruction and foreigners will not passively sit still and go down with a sinking ship.
Looking ahead, President Hu stated that he desires a “fair, just, inclusive and well-managed international financial order.” That sounds reasonable enough. But what constitutes a “well-managed” international financial order? Are there central bankers in other countries who could manage the system better than the Fed? Since China’s central bank has increased its money supply by 180 percent in just the last five years, I wouldn’t trust them to manage a currency well. (Despite cranking up their printing presses, the Chinese are trying to blame us for the inflation that they are currently suffering!)
Unfortunately, neither American nor Chinese officials are considering the two reforms that are needed in order to establish a viable international monetary regime. They are not only “off the table,” but off the radar screen.
The two insuperable problems that afflict the international monetary order today are the acceptance of fiat currencies and government monopolies. It is impossible for a country, let alone the entire world, to build a durable monetary order on the weak foundation of an un-backed paper currency. Indeed, history demonstrates that fiat currencies inevitably end up being worth exactly what they are—insignificant scraps of paper. And if you ever have wondered why consumer products get better and better over time, while our money—the most commonly traded good of all—continues to deteriorate in quality, the answer is simple: The former are subject to competition and consumer choice, while government’s money monopoly denies consumers a choice. People pick good stuff over bad stuff when free to choose, but governments deny us that freedom and instead impose on us the most pernicious monopoly of all—a monopoly on money.
If President Hu and American leaders truly want a well-managed international currency regime to emerge, they need to make these two reforms: 1) repeal legal-tender laws so that free competition can determine what will be used as money; and 2) have a separation of money and state comparable to our separation of church and state (what Nobel Prize-winning economist F.A. Hayek called “the denationalization of money”). Human governments have never demonstrated the honor and integrity needed to preserve the purchasing power of the money they issue, and the world is poorer as a result.
Welcome to America, Mr. Hu. I’m sorry that your dialog with American leaders about money will be such a waste of time.