The G-2 Currency Regime

Will the euro, having fallen from US$1.50 in November to around US$1.33, rise once again to the benefit of the European economy? If so, how high? The unexpected visit to Beijing made by Tim Geithner, the United States Secretary of the Treasury, will lead to a monetary “grand bargain” between the two powers, leaving Europe out. The euro will become the adjustable variable of major currencies unless Europeans have their say. Otherwise, Washington and Beijing will be making the decisions.

While the G-20 continues to struggle to find common ground on the post-crisis global framework, particularly on banking regulation, the G-2 will seal its deal. In a diplomatic gesture, the U.S. administration has suppressed a report accusing China of “manipulating” its currency. In the same spirit, Barack Obama continues to reject all attempts made by senators or congressmen to “punish China” through tariffs. It would be enough: According to some estimates, the yuan is undervalued by 25 to 40 percent, says U.S. economist Fred Bergsten. But this policy of accommodation is part of America’s larger plan: The United States will have to borrow billions to cover its budgetary deficit, and Beijing is expected to buy up tons of treasury bonds.

Chinese interest has been varied. Before the crisis, the yuan was revalued against the dollar in small, successive steps and, in July 2008, fearing a drop in exports, authorities re-pegged the yuan to the greenback. Today, growth has returned and China is once again in danger of overheating. The recovery plan has dramatically increased the country’s money supply. It is high time to put on the brakes, and revaluation of the yuan is one of the means to do so. China has suggested in recent weeks that it would return to the earlier monetary strategy of letting the yuan rise in small steps.

Taken in subtle doses every few months, this policy would be suited to the best interests of both partners. China will revalue its currency, enriching its citizens and encouraging them to consume more, while at the same time diversifying its foreign exchange assets. As a result, the U.S. dollar will slowly decline in value, fast enough to help U.S. exporters, but not so fast as to scare the markets and cause the dollar to collapse. This period of controlled structural decline of the dollar will not be an easy victory for Barack Obama on the economic front. Of course, this monetary system can escape its creators’ control but, in exchange, major policies will still have a stronger voice than the markets.

Strong Voices?

Let’s return to the absence of Europe. For now, thanks to the Greeks and deficits, the euro has sunk in value. Europe’s ongoing weak recovery, along with Asia’s boom and its consolidation with the United States, will also be keeping the euro cool. But, in any case, the fact is that Europe is responsible for supervising the value of its own currency. Internal disagreement arising from the Greek crisis and Germany’s solitary behavior will change nothing. Who in Europe could go to Beijing in search of a major agreement with China like Tim Geithner did?

Nevertheless, it would be necessary, because Europe has the exact same problem with China as America does. It certainly doesn’t depend on Beijing purchasing treasury bonds, but its trade deficit with China is much the same as America’s. Germany has a surplus, but the rest of the countries have serious deficits. Europe still represents 20 percent of the global economy, so it still has some say. The new international monetary system should thus be a game for three.

Above all, as emphasized by Jean-Pisani Ferry, this would signal that the new world order will be multilateral and not bilateral. It would be a sign that the global governance of tomorrow will remain in the European, post-Westphalian tradition, made up of diplomatic discussion — a compromise that doesn’t exclude the smaller countries. The American and Chinese empires see the world differently, because they’re accustomed to power. The case of the yuan is key: Is the G-2’s imposition of its monetary regime a preparation for global reordering?