Conflict between the United States and China dominated the meeting of the IMF on October 9 and 10. The United States was pressing China to revalue the renminbi upward while China was blaming the turmoil in currency markets on the United States policy of providing cheap credit. When Brazil’s finance minister spoke of an imminent currency war he was not far off the mark. China and the US were talking past each other but it would have been better if they had listened to each other because both sides were making valid points. Both China and the US, and the global economy as a whole, would fare much better if both sides accepted the other side’s recommendation.

The rest of the world echoed the American viewpoint—that China has been undervaluing its currency to help its export-driven economy—with greater or lesser stridency. Faced with opposition from developing countries, China is likely to yield and the renminbi will appreciate; only the pace and extent of the move is in question. But China’s viewpoint is also valid: the US ought to apply fiscal stimulus—i.e., more government spending—rather than monetary stimulus. Unfortunately the Obama administration is not in a position to do so because it is under domestic political pressure to hold down the deficit.

The Republican opposition has been highly successful in turning “stimulus” and “bailout” into dirty words that cannot be used. The opposition narrative blames the crash of 2008 and the subsequent recession and persistent high unemployment on the ineptitude of government and claims that the 2009 stimulus package was largely wasted. There is an element of truth in this interpretation but it is far too one-sided. The crash of 2008 was primarily a failure of the financial markets and the fault of the regulators was that they failed to regulate.

Without a bailout, the banking system would have stayed paralyzed and the recession would have been much deeper and longer. It is true that the stimulus was largely wasted in the sense that most of it went to sustain consumption but that was owing to time pressure. What the government had to do in the short run—keep the economy from collapsing—was the exact opposite of what was needed in the long run—correct the underlying imbalances, particularly between consumption and investment. Confining the initial stimulus to government investment would not have worked because it would have been too slow.

Where the Obama administration did go wrong, in my opinion, was in the way it bailed out the banking system. It helped the banks make their way out of a hole by supplying them with cheap money and relieving them of some of their bad assets. This was a purely political decision: on a strictly economic calculation it would have been better to inject new equity into the balance sheets of the banks. But this would have given the government effective control of a large…