The Hindu Business Line : Striking the right chord

The Prime Minister, Dr Manmohan Singh's visit to the US has prepared the ground for further talks on the economic and financial implications of a loose US monetary policy.

S.Venkitaramanan

The Prime Minister, Dr Manmohan Singh's state visit to the US was, no doubt, an important opportunity for him and the US President, Mr Barack Obama, to discuss the Indo-US relationship and problems of mutual significance.

The visit was also particularly timely in view of the recent news stories on the US inviting China to play a part in the Indo-Pakistan relationship.

That said, certain comments of Dr Manmohan Singh during his visit, particularly on the dollar, appear to call for reflection. He said that it was premature to suggest the possible demise of the dollar. Dr Singh was obviously referring to the widespread speculation that the dollar was on the decline and its days as an international reserve currency were numbered.

Dr Singh merely asserted what was an obvious fact of life — that the dollar's pre-eminence was still a reality. While it is true that the dollar has been declining in strength in the recent period, no substitute for the dollar as an international reserve currency has yet been found.

The decline of the dollar has been responsible in some ways for the rise in prices of such commodities as crude and gold. But it is still the only international reserve currency that we have. The euro has not succeeded in picking up the challenge.

The Chinese currency, the renminbi, is still far away from replacing the dollar, as its acceptability as a unit of account in international trade transactions is doubtful. Further, the renminbi is still tied to the dollar.

There can, therefore, be no question of the renminbi becoming the international reserve currency in the near future. Nor, for that matter, is any other currency a challenger.

Dr Singh's views regarding the dollar would have come as music to the US administration's ears. President Obama is struggling with economic issues, not the least of them being the strength of the dollar. Many critics fault the US administration for the weakness of the dollar. When a renowned economist like Dr Singh says that the dollar will continue as an international reserve currency and deserves to be strong, it will act as a salve for the American political ego.

Dr Singh went beyond diplomatic considerations when he made the above statement. He must have noted that the Chinese financial authorities have been openly decrying US economic policy, calling attention to its loose monetary management.

President Obama's advisers would note the contrasting nature of Dr Singh's comments in this context.

While America has tried to assuage a difficult customer in the shape of the China, which aspires to be the world's hegemon and would like the renminbi to displace the dollar, Dr Singh offers a pleasant, credible and intelligent contrast.

It is also a matter of importance that India stands invested heavily in the dollar, to the extent that its reserves are held in dollar-denominator securities, which are virtually a loan to US treasury.

Dr Singh must have considered that talking down the dollar on his part would imply a considerable damage to the value of India's reserves.

COPING WITH CARRY TRADE

How would India and the rest of the world contend with the present American economic situation? The availability of “easy money” at near zero interest in America has led to the emergence of a ‘carry trade', leading to an outflow of capital from US to the rest of the world.

‘Carry trade' means that investors borrow cheap in dollars and convert the same into currency of the target countries, which they invest in equity real estate and the like.

The emergence of such large capital flows is derived from the persistence of a loose monetary regime in USA and the existence of profitable opportunities in other parts of the world, especially the emerging market economies.

The time has come for the world to examine whether loose economic policies in the US may not lead to currency appreciation and creation of asset bubble in the rest of the world.

While Dr Singh is right in asserting that the dollar will remain as an international reserve currency for a long time to come, the economic health of the world as a whole depends on avoiding further volatility in currency appreciation and asset bubbles in the rest of the world also. It may be necessary in this context for Dr Singh to urge that the G-20 should meet again and consider how to handle problems arising out of America's policies.

Money released by its stimulus programmes creates problems in terms of unrestricted capital flows, leading to currency appreciation and loss of jobs in emerging economies.

Perhaps, it is time to revisit the proposal for a coordinated programme of capital controls, which can be articulated and managed under the aegis of the IMF. The IMF, which has been traditionally against capital controls, is ironically the best candidate to discharge this responsibility.

Dr Singh's visit might have created the platform for further discussions with the US administration, so that the issue comes up for discussion at the the next G-20 conference.

UNRESOLVED ISSUES

It is characteristic of Dr Singh's style that he played the right tune, which would strike a chord in the American political credo. But, Dr Singh recognises that much more has to be done to ensure that international economic imbalances are set right. This can happen only if the American economy starts to save more and depend less on credit from the rest of the world, including India. To be sure, Dr Singh would have offered his ideas on the subject to President Obama.

Dr Singh's confidence in the dollar has helped keep the relationship between the two countries on an even keel.

There are, however, more substantive issues calling for Dr Singh's attention, such as US's tilt towards Pakistan and China. These problems have to be solved by a series of hard-headed economic and political decisions.

I am sure he would have delivered to American hosts the blunt message that Pakistan's self-destructive relationship with terrorists should end. Similarly, Dr Singh has to tackle the unresolved issues in finalising the civilian nuclear arrangement.

Further compromises on this question will put India's political sovereignty at risk. The US visit is only a small beginning for further bilateral and multilateral negotiations on economic and political matters.

More Stories on : Foreign Trade | Foreign Relations | S Venkitaramanan

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