‘Global inflation’ and ‘the proper use of policies under fixed and flexible exchange rates’: A personal perspective on two themes of Alexander’s research
Headline inflation rates have increased more or less simultaneously in a number of countries and regions during the past one to two years. Globalization has been mentioned as one of the possible factors responsible for this increase much as it was given as a reason for the subdued inflation rates in the same economies during the previous five to ten years. The term ‘global inflation’ was used in the late 1960s and 1970s to describe a similar worldwide pattern of inflation rates that emerged at that time. Alexander Swoboda was a prominent contributor to the analysis of the sources and spread of inflation at that time, emphasizing the critical role of the Bretton Woods exchange rate system of fixed exchange rates centered on the US dollar. In the next section of this chapter I first review the analysis of global inflation during the Bretton Woods system as seen through research by Alexander and colleagues at the Graduate Institute of International Studies in Geneva and with whom I had the fortune of being associated as a fresh PhD out of the University of Chicago. I then discuss whether this analysis can be used to shed light on the current debate about the sources and spread of global inflation pressures. Section 3 takes up another theme in Alexander’s research, namely the proper use of economic policies under fixed and flexible exchange rates. In several writings he had emphasized how the stability of a fixed exchange rate system required monetary policy to be ‘assigned’ to maintaining external balance and that this result fundamentally did not depend on the degree of capital mobility. Similarly, the logic of a floating exchange rate system required that monetary policy be assigned to another objective, namely internal balance, or price stability as we would call it now. If ensuring external (current account) balance was also a goal of economic policy, some other instrument would have to be found. Fiscal policy was shown to be the appropriate choice. The appropriate pairing of instruments and objectives was emphasized in analyses of the major ‘global imbalance’ of the early 1980s, namely the large current account deficit of the United States and the corresponding surpluses of Germany and Japan. At the time there was considerable pressure on the Japanese
authorities to appreciate the yen in order to solve the global imbalance. Research by Alexander and myself showed that this policy prescription amounted to an inappropriate pairing of instruments and goals of economic policy. In section 3 I argue that the same error has been perpetuated in the context of the current ‘global imbalance’ where the Chinese authorities have been urged to appreciate the renminbi. To remedy this error, I propose that policy consultations and advice related to current account imbalances should focus on policies that are likely to have a strong influence on these imbalances and should de-emphasize the notion of exchange rate misalignments. As befits a Festschrift, and as the reader will recognize, references to the literature in what follows are heavily biased towards articles written by Alexander. As I had the privilege of working closely with him during these years, my own, as well as jointly authored articles also figure prominently. Alternative interpretations of the issues we wrote about were of course published, but the purpose of this chapter is not to survey the entire literature but rather to describe what we believed at the time of writing and what relevance it may have today.