Joseph Stiglitz - Thanks to the Deficit, the Buck Stops Here - 08.29.09

Stiglitz: Thanks to the Deficit, the Buck Stops Here

from Economist's View by Mark Thoma

Joseph Stiglitz repeats a warning that he and others have made in the past that, like it or not, the dollar's days as a reserve currency are numbered. Thus, instead of resisting this change -- as we have -- "it's better for us to participate in the construction of a new system than have it happen without us":

Thanks to the Deficit, the Buck Stops Here, by Joseph E. Stiglitz, Commentary, Washington Post: Beware of deficit fetishism. Last week we learned that the national debt is likely to grow by more than $9 billion. That's not great news -- no one likes a big deficit -- but President Obama inherited an economic mess from the Bush administration, and the cleanup comes with an inevitably high price tag. We're paying it now. ...

There are ... consequences, however, that we're missing in the debate over all this red ink. Our budget deficit, as well as the Federal Reserve's ballooning lending programs and other financial obligations, will accelerate a process already well underway -- a changing role for the U.S. dollar in the global economy.

The domino effect is straightforward: Higher deficits spark market concerns over future inflation; concerns of inflation contribute to a weaker dollar; and both come together to undermine the greenback's role as a reliable store of value around the world. ...

Anxieties about future inflation can lead to a weaker dollar today. So, are these anxieties justifiable? ... The worries are justified, even though Fed Chairman Ben Bernanke ... assures us that he will deftly manage monetary policy... This is a tough balancing act... Anyone looking at the Fed's record in recent years will be skeptical of its forecasting skills and its ability to get the balance right.

In addition, international markets understand that the United States may face strong incentives to reduce the real value of its debts through inflation...

Like it or not, out of the ashes of this debacle a new and more stable global reserve system is likely to emerge, and for the world as a whole, as well as for the United States, this would be a good thing. It would lead to a more stable worldwide financial system and stronger global economic growth. ... Discussions on the design of the new system are already underway. ...

The United States has resisted these changes, but they will come regardless, and it's better for us to participate in the construction of a new system than have it happen without us. The United States has seen great advantages with the dollar as the world's reserve currency..., particularly the ability to borrow at low interest rates seemingly without limit. But we haven't seen the costs as clearly: the inevitable trade deficits, the instability, the weaker global economy. The benefits to us are likely to shrink, and rapidly so, as countries shift their holdings away from the dollar. ...

America should show leadership in helping shape this new structure and managing the transition, rather than burying its head in the sand. We may have preferred to keep the old system, in which the dollar reigned supreme, but that's no longer an option.