What do Rogaine and the Federal Reserve’s economic-stimulus policies have in common? No, it doesn’t involve Ben Bernanke’s or Alan Greenspan’s hairlines. Give up? The answer: side effects.
Rogaine, as you may know, was originally developed as a blood pressure medication but was “repurposed” because it had the side effect of promoting hair growth. The two Fed side effects we’ll discuss today — prospective currency wars with some major trading partners, and a reduction in the federal budget deficit—are far less known than Rogaine’s. But, with all due respect to follicularly challenged males, they are a lot more important.
The first Fed side effect, currency wars, is an example of how something good — stimulating our economy by lowering interest rates — can have a downside. Cutting interest rates faster and more deeply than most other central banks has weakened the dollar against the currencies of many of our major trading partners. The Fed doesn’t exactly run around telling the public that it is happy to see this happen. But that’s the case, because a gradually declining dollar encourages job growth in our country by making our exports cheaper and our imports more expensive.
The problem, which reared its head in the run-up to the Great Depression 80 years ago, is that if everyone devalues, no one benefits. Instead, you get widespread instability, fear and trade wars. The prospect of that makes even a congenital optimist like me more than a little nervous.
The dollar has dropped more than 10 percent against the currencies of our major trading partners since 2009, when the world financial crisis was in full swing and the Fed invented one program after another to drive down interest rates. The dollar may well have been artificially high in 2009, but, nevertheless, its subsequent decline has had a major impact on trade.
U.S. manufacturing is showing signs of recovery, in part because the dollar’s decline has made domestically produced products more competitive with foreign products. But what’s good for us is bad for countries whose products are being priced out of our market and are being forced to compete with cheaper (in terms of their currencies) U.S. goods in other markets, including their own.
The new Japanese prime minister, Shinzo Abe, is pushing his country’s central bank to run down the value of the yen as part of his economic stimulus program. China is thinking along similar lines. Germany, which doesn’t control the euro directly — the European Central Bank does — is pushing programs that are nominally aimed at economically struggling euro countries but that will also drive down the euro’s value, making Germany more competitive.
The Fed is playing a complicated, high-stakes game here. The dollar is the world’s reserve currency, which allows us to suck in money from all over the world to fund our trade and budget deficits without having to balance our accounts. There’s a tension between our internal situation (a lower dollar is good) and our role as a reserve currency (a dollar that falls too rapidly risks spooking investors and costing us our reserve-currency status).