from Follow the Money

Will US (and Chinese) economic policy pass the Korean test?

February 18, 2005

Blog Post

More on:

Monetary Policy

Korea thinks China should get rid of its peg.

And the governor of Korea’s central bank, Mr. Park, thinks the US should take steps to reign in domestic US demand and reduce its twin deficits.

Park also called on the US to adopt policies to lower domestic

demand and raise private savings levels in order to reduce the country’s budget and current account deficits.This, he said: "Should be followed by global exchange rate adjustment and cooperation in economic policy. The dollar needs to weaken gradually within a range of values that is sustainable for East Asian countries."

He also had a stark warning for the US, saying that Asian central banks may become reluctant to help the US finance its deficits.

"A steep downtrend in the dollar would make East Asian countries reluctant to buy more dollar assets, which would make it difficult for the United States to finance its deficits," he said.

The fact that Korea is adding its voice to those calling for China to adjust its peg is significant -- if for no other reason than in suggests that Korea does not like its current set of choices.

In the fourth quarter, Korea’s reserves grew by $25 billion ($100 b annualized), an absolutely unsustainable pace. Korea understands the value of reserves: Korea’s 1997 crisis stemmed in large part from a gap between short-term foreign currency debt and liquid foreign currency reserves. But there is a limit to the size of the war chest any country needs for self defense. $200 billion seems to be quite enough.

On the other hand, Korea also worries that if it does not intervene and the won rises further, its own economy will be squeezed by China.

Korea’s preferred solution: a renminbi revaluation, and less reserve accumulation throughout East Asia. That, though, could well put pressure on the US.

The plot thickens.

I suspect the Bank of England’s Mervyn King is right: the time has come for the G-7 to sit down with the large Asian economies and have a serious discussion about the current international monetary order.

King throws out one interesting fact. For most of the post war period, Asian reserves were about equal to G-7 reserves. Today, Japan and other Asian economies hold about ten times the reserves of the rest of G-7 (the US, Canada and the key European economies). This should not surprise any one, but it is still a reminder that Asian reserve accumulation on the current scale is something that is quite new - and not an intrinsic element of the Asian development model.

More on:

Monetary Policy

Up
Close