Selected Essays of James Tobin
Chapter 11: Tighten belt? No, spend cash
* LESSON NO. 1 Fixed but adjustable exchange rates are a bad idea for almost all national currencies. The only viable regimes in our increasingly globalized ﬁnancial world are either ﬂoating exchange rates or irretrievably ﬁxed rates. Most developing, emerging, and transition economies should henceforth have currencies with ﬂoating rates. This is the simplest and most obvious lesson of the current crisis. Yet it is strangely absent from most of the rhetoric that has cluttered the world’s media this year. The East Asian victims of currency crises were, like most other nations, on ﬁxed but adjustable pegs to the US dollar or to other major hard currencies or to baskets of these. Their central banks promised to redeem on demand their own currencies held by anyone, foreign or domestic, in prescribed amounts of hard currencies. Often the pegs were ranges rather than precise values, and, in many cases, the midpoint of the bracket moved over time at a prescribed speed. The pegged rates were thus not immutable, and central banks could adjust or abandon them at any time, violating their own solemn promises. Naturally, market participants worldwide speculated on such possibilities. Worse yet, they speculated on what other currency holders thought about the risks of default. Such is the system’s inherent source of instability. Although everyone seems surprised when currency crises occur, they are not at all surprising, and happen at one time or another to almost all ﬁxedexchange-rate regimes. In recent decades, such crises have hit European countries (Britain, Italy,...
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