Monetary Policy and the Balance of Payments

Abstract

A NYONE WHO DISCUSSES the U. S. balance of payments problem nowadays, and what should be done about it, invariably will mention monetary policy. He not only will mention monetary policy; he will pass judgment on it. If the speaker is an American or European banker, he is likely to say what we need is less monetary ease. The President's balance-ofpayments program, outlined in his message to Congress on February 10, has been widely criticized in the financial community here and abroad for not recognizing the need for a tighter monetary policy and higher interest rates. If the speaker is a university professor of economics, it is hard to predict what he will say, except that it will be critical. One group of professors will say that what we need is a floating exchange rate; then our monetary policy could be more expansionary. This, in turn, would help reduce our rate of unemployment; it would enable our economy to grow faster, and it also would enable us to stop being a pincushion for General DeGaulle. On the other hand, anyone who discusses U. S. monetary policy nowadays will almost certainly mention the balance of payments situation. If he is predisposed toward tighter money, he will use the balance of payments situation as a battering ram to smash any suggestion that monetary policy should be made somewhat easier. Besides, he will assert, the unemployment problem is structural, so an easier monetary policy wouldn't reduce it. However, if the speaker is predisposed toward easier money, he may pooh-pooh the sensitivity of international capital flows to differences between U. S. and foreign interest rates. Even more probably, he may say that we cannot let European central bankers and ex-generals determine our monetary policy. The exponents of this point of view would have monetary policy be guided only by considerations of domestic full employment. According to them, the high unemployment rate is caused by inadequate aggregate demand, rather than by structural defects. As to the resulting reaction of foreigners, the advocates of fullsteam-ahead would insist that the foreigners really can't afford to do anything more than scream and to take probing actions to test our nerves. To do more than that would wreck the entire international financial mechanism, thereby precipitating a worldwide crisis from which they would suffer as much as we would; hence they would not dare to do more than protest. The advocates of this latter position, by and large, are academicians who have never met a European central banker. U. S. Government officials and commercial bankers who have done so are much more cautious. They have seen the reds of their counterparts' eyes, and are not at all sure that they are bluffing. Besides, even bluffing can precipitate crises unintended and undesired by all concerned. It is a mark of maturity and responsibility to avoid goading an opponent to a point where he may feel impelled to pull a bluff that might possibly slip out of his control. In international monetary affairs, as in international diplomacy, brinkmanship can be a deadly game.