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At a speech last week at the Brookings Institution in Washington DC before a distinguished audience including central bankers from the US, Brazil, and the ECB, the Governor of India’s Reserve Bank, Raghuram Rajan, proposed a new fix for the ills afflicting emerging market currencies and economies – global monetary policy coordination. At issue was the extremely unconventional monetary policy of the US Federal Reserve since 2009 whose ‘tapering’ has landed so many emerging economy currencies – the rupee, the real, the ruble and the rand as much as the Turkish lira and the Argentinean peso – in trouble over the past year. Given the asymmetrical power of the US and the EU in the international monetary system, Rajan’s proposal amounted to pleading that the Federal Reserve and the European Central Bank make policy with an eye to its effects on emerging economy currencies and economies.This proposal received a frosty reception. Why should US or European central bankers, charged with the duty of setting policy in the interests of their own economies and currencies, be obliged to pay attention to the consequences of these policies for other countries? And was the theory Rajan was relying on, that persuasive in the first place?
These would have been strong words in any group. In one of the few public exchanges amongst members of the suave and secretive international club of central bankers who talk to one another privately about a dozen times a year, they were fighting words. After all, Governor Rajan’s proposal could have just been humoured, interpreted as an innocuous suggestion for even more jaw-jaw among central bankers and more inventive policy rationales for public consumption. The question also arises why Rajan would go out on a limb like that in public? After all, this was his familiar milieu. He must have more or less known how his peers would react. What was really going on?
Global economic fault-lines
A plausible interpretation is that a serious fault-line is appearing in the rarefied world of central bankers who have shared a common commitment to the neoliberal vision of free world-wide, and mostly dollar-denominated, capital flows since at least the 1990s. The fault-line emerges from fundamental contradictions of the vision itself. This contradiction, simply put, is that it was never capable of creating an international monetary and financial order conducive to widespread growth. It has long been evident but so far it was possible to obfuscate if not obscure it entirely. Now, even this may not be possible.
The unconventional monetary policy Rajan was complaining about is, of course, the US Federal Reserve’s near-zero interest rate policy and its massive Quantitative Easing (QE) programme which, since 2009, has been purchasing securities from the banking sector as well the government to inject liquidity into the financial system. The public justification has been that these policies are both necessary and sufficient to get the US economy out of recession; cheap and plentiful money will get the banking system back on its feet and lending again to business which will invest and create jobs. In recent years, the Federal Reserve underlined this rationale by tying the continuation of this unconventional policy to the unemployment figures.
In fact these policies were neither intended to, nor succeeded in, turning the US economy around. For that would have required a massive fiscal intervention – increased government spending through a well-designed programme to do what the private sector appears unable and unwilling to do despite trillions of dollars of new liquidity in the financial system, invest and create jobs in new, welfare-enhancing areas of the economy.
Indeed, as I have long argued, all the public focus on monetary policy, its unconventionality and its innovations, has served two quite other functions: to perpetuate the heavily finance- (rather the production)-dominated US economic structure and to continue the neoliberal policy regime that created it. QE, which exchanges the banks’ ‘toxic securities’ for good new money constitutes a massive unofficial bailout for the financial sector to the tune of trillions of dollars, far exceeding the puny official disbursement of $ 750 billion under the Troubled Assets Relief Program. And as long as monetary policy remains the ‘only game in town’ where economic recovery is concerned, fiscal activism of the sort that is really necessary but anathema to neoliberalism is not even discussed.
The disquiet in emerging economiesThe ‘tapering’, which has been necessitated by downward pressure on the dollar that this excess of liquidity has inevitably created and the dangers of continuing to inflate the Federal Reserve’s balance sheet, has been justified in the name of better unemployment figures. This rationale has been dodgy enough and to prevent or at least stall political opposition from forming, the Federal Reserve must keep up the discourse of a US recovery being the overriding goal of monetary policy. That is why it cannot afford to be seen ‘coordinating’ policy with central banks with some greater international good in mind.
For the emerging markets unconventional monetary policy was discomfiting when it was in full throttle as well as now that it is being ‘tapered’. It first led to massive inflows of capital into the emerging economies as restored US financial institutions got back to their speculative ways and emerging market currencies and stock markets became major targets. Whether the resulting currency appreciation was welcome or not, emerging market economies soon began to rely on these currency flows. So when the Federal Reserve began to speak of tapering in May 2013, and then began implementing it, in December, the result was unprecedented downward pressure on emerging country currencies.
In responding to both the capital inflows and recent outflows, emerging market central bankers and policy makers have once again underlined the irony of emerging market policy: though state intervention and regulation forms the basis of such sustainable growth as they have achieved and more is necessary to deal with the current growth slowdown, neoliberal policies, in particular open capital markets to permit their emerging economy corporations to operate internationally, remain policies of choice.
That is why emerging economy central bankers dealt with the large inflows by accumulating large reserves to deal with the near-certain eventuality of large outflows. And they dealt with recent steep currency depreciations through currency intervention and, when that failed, by increasing interest rates. In both cases, growth was compromised: in the first, reserve accumulation diverted capital from much-needed investment and, moreover, bolstered a defunct international monetary system by supporting the dollar and in the second, high credit costs deter investment. Despite these well-known consequences, policy-makers are loath to adopt the only sane alternative, capital controls or capital account management to prevent massive inflows as well as outflows. That would be a cardinal sin in the neoliberal faith.
At the same time, the consequences of these neoliberal policies are now biting. Low growth in the already rich advanced countries is one thing, a slowing down of the relatively fast paced growth in emerging economies was likely to be politically destabilizing given the greater poverty and higher expectations.
Worse, inflation pressures are building up, in India at least. Given his neoliberal bent, Governor Rajan is inclined to deal with it with further growth-strangling interest rate hikes rather than government intervention to deal with its supply-side origins, particularly in Indian agriculture. By proposing global monetary policy coordination Governor Rajan may simply be clutching at the only straws he can find in neoliberal waters but his own neoliberal peers cannot allow him even this: the continuation of neoliberal orders in the advanced countries and in the emerging economies appear to have conflicting requirements.
If and when current or future policy-makers finally realize that neoliberal policies, rather than being paths to growth are its cul-de-sacs, and finally abandon them, if and when they replace them with more productive and egalitarian policies that have always been necessary for growth, the growth prospects of the emerging economies will once again brighten.