A James Alexander post

De jure, the Federal Reserve sets monetary policy for the USA alone. De jure, the ECB sets monetary policy for the Eurozone. In reality, things don’t work like that. Many reasonably suspect Germany sets monetary policy for the Eurozone plus all those who either officially or closely peg against the Euro.

Scott Sumner is often very harsh on Greece, blaming the Greeks for staying in the Euro rather than the Germans for not being European enough and leaving the ECB free to work for all of the EZ.

It’s an endless debate. For what it’s worth, I tend to take the Germanic line and say the Greeks should take responsibility for their own future. Varoufakis was deeply unimpressive for me until it transpired he really did have a secret Plan B for exiting the Euro. Shame on the rest of the Greeks for considering it treasonable. Of course, a Greece independent of the Euro run according to the “socialism in one country” principles of Varoufakis could have been a Venezuelan-style disaster but wouldn’t have lasted long in the face of prospective economic collapse and the need to remain democratic to stay in the broader EU.

However, fault is one thing, it’s just a blame game, it doesn’t change the current economics.

The same debate comes up with the USA and the dollar bloc. Lars Christensen has just written a clear post on the challenges thrown up by China’s linkage to the dollar. The IMF calls it a “soft peg” with “a crawl like arrangement”

Ironically, Scott Sumner is a great defender of China against many of the naysayers, but still maintains a ruthless fairness in saying monetary policy is the responsibility of China alone and not the FOMC.

Unfortunately, de facto, the USA sets monetary policy for China because of the currency peg. Out of the latest PPP World GDP figure of $108tn, the USA monetary policy de facto controls nominal growth in nearly half of it. The USA ($17.4tn) obviously, China ($17.6tn), Saudi Arabia ($1.6tn), Taiwan ($1.1tn), Argentina ($0.9tn), Egypt ($0.9tn), UAE ($0.6tn), Vietnam ($0.5tn), Iraq ($0.5tn), Venezuela ($0.5tn).

Another study from the ECB in 2011 shows 40% of the trade-weighted emerging and developing world is in the dollar bloc. Even this is probably an underestimate of the scale of the dollar in the world economy as many countries that do float more or less freely are dollarised to a greater or lesser extent – observe the huge dollar balance sheets sitting inside the Turkish or Andean Pact banking systems.

The current, passive, and prospectively active, FOMC tightening comes at a terrible time for many of these countries. Lars Christensen highlighted the case of China, but many of the names in the 40-50 long tail of dollar bloc members are oil or commodity producers. They need monetary tightening like a hole in the head. Of course, they should break away and float freely (or peg to the commodity price). However, as in the case of Greece inside the EZ it is not easy. Each of these countries has enormous internal stresses and strains, and powerful individual tragedies that dominate local and often world politics. I only highlighted the biggest 8 of the tail and the names of these immediately sets you off into a flow of global strategic thoughts. It’s easy sitting in Jackson Hole, or Texas say, to just think the only thing that matters to the FOMC is the USA, but as with Germany and the ECB, wider issues should also be considered sometimes.

At the end of the day though, I agree with Scott, I’m a supply-sider too after all. I am sympathetic to the inevitable human suffering but for most there is no alternative to floating and suffering a bit, or not floating and suffering a lot.