THE ECONOMY

Floating currencies need not cause a sinking feeling

JOCK BRUCE-GARDYNE

Standing up for floating currencies these days is a bit like promoting the weed or sexual promiscuity. It isn't done. 'Ex- change rate volatility', and in particular its more acute manifestation known as 'mis- alignment', like Aids, is a condition for Which we have not yet found a cure, but Where public education — leading to pur- suit of 'target bands' for the major trading currencies, and membership of such 'Floa- ters Anonymous' institutions as the Euro- Pean currency grid — is the next best thing. I recently attended a learned confer- ence, organised by the sceptics of the Institute of Economic Affairs, at which we were warned (not by the IEA, I hasten to add) that floating currencies were simply ncit compatible with an open trading sys- tem. International contracts were almost linPossibly hazardous when there was no Way of knowing what would be the relative value of the currencies involved over the lifetime of the contract. A voice from the body of the kirk dared to mention the existence of forward currency markets, Only to be told that they were not a blind "it of use where delivery dates were several Years ahead. In the golden age of 'fixed' exchange rates, from Bretton Woods to the Vietnam War, the international trading corporation knew what value in domestic Money it would be paid in five years time. .k, so it not infrequently discovered that it;' expectations were disappointed. It was "e expectations that mattered.

When was not always thus. There was a time w 'Jeri floating currencies (and sexual prom- i,llitY and the weed, for that matter) were all the rage. They (floating currencies, not 'sit! other things) were going to abolish Z1310 and set the world on a path of L'rPotual growth and happiness. Some of ,."' were sceptical. We feared lest the ..'eMoval of the threat of forced devaluation iwoul. d encourage governments (particular- Britain) to indulge their natural Penchant for seeking to buy votes by Printing money. w For a time our scepticism seemed to be W01-founded. The collapse of the Bretton oods system at the beginning of the in",Qs. was followed by a lurch into hyper- i"nation in this country and elsewhere. But f_ventually we discovered that retribution itir irresponsible monetary policies, far ate' disappearing, was actually acceler- to', keep the IMF from his door for three

years. In the 1970s the juggling act proved sustainable for only two.

So the floaters soon became disillu- sioned, and now the wheel has turned full circle. All sensible people (everyone, that is, apart from Mrs Thatcher and her coterie of mavericks headed by Sir Alan Walters) now cry 'come back Bretton Woods, all is forgiven'. When all sensible people agree about a proposition there is usually some- thing to be said on the other side.

Consider our present discontents. West Germany is currently the favourite whipping-boy. The Japanese have struck a

deal of sorts with the Americans which is supposed to bring stability to the dollar- yen exchange rate. They have also talked a lot about their international duty to in- dulge themselves (words, after all, cost nothing). The Germans, however, wilfully ignore all appeals to mend their ways.

Instead of letting credit and consumption rip they fuss about non-existent inflation risks and hang on to their rate of interest like grim death. Meanwhile they colonise the US, and other, markets, and induce protectionism in the luckless victims.

Now in the golden days of Bretton Woods the German Government would have provided the French, the Brits, and more or less any other trading partners who would play the game (and that meant most of them) with swap facilities to help sustain their parities — thereby enabling them to go on buying German goods. In

the end the truth had to be faced, and the weaker currencies were devalued, where- upon the Germans stood to be reimbursed in the enhanced value of their marks.

There was, it is true, a 'scarce currency' clause in the Bretton Woods rules, which

was supposed to enable the rest to impose

trade barriers against a too successful country which declined to revalue its cur- rency in terms of the dollar numeraire.

There was a time, in the later 1960s, when we used to clamour for invocation of the `scare currency' clause against — surprise,

surprise — the German mark. It never happened. 'Adjustment' — i.e. devalua-

tion — was a one-way option for the under-performers, whose propensity to under-perform was thereby encouraged.

In these degenerate times the disciplines are more even-handed. The Japanese have watched with horror as their export indus- tries have been savaged by the strength of their currency. Ditto the Germans. What are they to do, they ask. Slash their interest rates, stoke up a consumer boom, and set their envied achievment of stable prices at risk? Try and mop up unwanted dollars and French francs in the currency markets, thereby boosting domestic liquidity — and being overwhelmed by the speculative tide anyway, as they were last week? Buy US bonds to underpin the dollar, and watch the value of their investment shrink? Or let their exporters (and, worse, their farmers) suffer as their currency appreciates?

Fortunately for them the Japanese have their exchange rate pact with US Treasury Secretary Baker, while the Germans have

their `floaters anonymous' in the Euro- currency grid. It seems logical to assume that in the absence of the grid the deuts-

chmark would be appreciably dearer to the other participant countries than it is follow- ing last weekend's realignment. So the German farmers and exporters enjoy some relief — though maybe not for long.

That apart, what about the incompatibil- ity of floating exchange rates with an open trading system? Notwithstanding a large depreciation in the yen and deutschmark value of the dollar the US trade deficit breaks new records and the Congressional demands for protection look increasingly irresistible. True. It takes time for currency adjustments to make their impact on trad- ing patterns, and politicians are impatient. But the transmission mechanism whereby currency regulation to prevent the dollar slipping, or the yen and deutschmark strengthening, would silence Congression-

al querulousness remains obscure (particu- larly when one US complaint is that several of the 'newly industrialised countries' of

South-East Asia have contributed to American tribulations by shrewdly hitching their currencies to the US dollar).

These random thoughts have been pro- voked, I need hardly say, by the Euro-

currency shake up last weekend. The snake, we are asked to believe, having sloughed off one skin, will now settle down once more to basking in the sun. As I write, that did not seem to be the way things were shaping. For all the billions

spent on 'intervention', there is still no

holding the mark and yen — and no holding onto the dollar (not to mention the French franc and our own beloved pound). It is all deeply distressing for the exchange rate bandmasters. Would we really rather have protection?