A plea for a stable dollar

WSJ: Dollar Bears

Excerpt:

Whereas we can have as many mediums of exchange as we want, we must price goods and services, and get into longer term contractual agreements, to ensure stable capital flows. But should we price in euros or in U.S. dollars? Or, as has been done for centuries, in terms of gold?

What matters is to have an agreed-upon unit of account in terms of which trading partners could price every contractual agreement, preferably having the medium of exchange serve as the unit of account, too. This anchor is missing in the international monetary system today, and is one reason for the financial havoc surrounding us. The volatility around a downward trend of the U.S. dollar -- which was closest to playing the unit of account/exchange double role for half a century -- has diminished its efficiency for these uses. As a result, contracts are shorter. Companies pay substantial insurance fees (and derivative contracts are in the trillions) to stay in their line of business and not get into exchange-rate trouble. Resource-rich countries keep their resources in the ground longer, rather than selling them for papers with uncertain values. And some investors have been loosing substantial amounts by holding bonds of devaluing currencies. Now people are deciding not to invest in U.S. dollar-denominated assets.

The issue isn't that "we will never have a perfect model of risk," as Mr. Greenspan appears to think. What we need is accountability, not perfection. With the proper anchor, central banks can sustain a stable value for their currency, and that is what they must be held accountable for. If they do that, even if financial institutions experiment with a wide range of innovations they cannot expand credit too much.

Crises bring us back to the basics. There is prosperity when talent is matched with capital and everyone can measure in a predictable unit of account. Stable currencies bring about long-lasting, wealth-creating employment. The destruction of wealth by debasing currencies occasionally "creates" employment (with people being forced to accept lower-paying second and third jobs) but it signals poverty, not prosperity.



Comment: Interesting that the "gold" base issue was raised. Summary: The Fed's moves (Bear Stearns & lowered rates) cheapens the dollar.