«Elke Muchlinski1 Explicit or implicit Monetary Coordination – Considering Historical And Future Aspects© Key words: currencies, central banks, ...»
Regarding the first and second components, the configuration of tripolarity leads to the view that money is not neutral. Neither the hypothesis of the neutrality of money nor the RE can be supported by the modern view of central bank theory and policy or the empirical phenomenon of exchange rate coordination. At this point the question arises which policy instrument a central bank should choose if one bears in mind that it controls the nominal short rate and not the real long rate (see Blinder 1998). According to open economies, Keynes described this aspect similarly: "The short term rate of interest is easily controlled by the monetary authority, (...) because it is not difficult to produce a conviction that its policy will not greatly change in the very near future, and also because the possible loss is small compared with the running yield (unless it is approaching vanishing point). But the long-term rate may be more recalcitrant when once it has fallen to a level which, on the basis of past experiences and present expectations of future monetary policy, is considered 'unsafe' (…). For instance, in a country linked to an international gold standard, a rate of interest lower than prevails elsewhere will be viewed with a justifiable lack of confidence (...)" (1936, 203). The notion lack of confidence expresses the precariousness and fragility of knowledge inherent in both, past and future events and decisions.
Given these brief remarks on a topic of modern central bank theory and politics, the aim of a neutral monetary policy is compatible with constant inflation in the medium term. This point of reference is not to be confused with the neutrality of money. The particular questions of how and when monetary policy of an independent central bank affects the capital market, i.e., the interest rates, which regularly attract the attention of investors and effect their decisions, are still controversy in the literature (Clarida et al.
1999). They are also important aspects regarding monetary coordination. To summarize, since monetary coordination is addressed to central bank policy, it makes no sense to adhere to both hypotheses.
Comparing an old and new configuration of tripolarity
The very roots of the emergence of different key currencies within the international monetary system go back to the time when the British pound sterling was challenged by the U.S.dollar in its role as a key currency during the gold standard. The Sterling-centered system of global finance was changed by 1931, but it was not displaced by any other dominant currency during the period of 1931 to 1944. Eichengreen figured out that the interwar arrangements, in comparison to the Post-World War II period, was Explicit or implicit monetary coordination? Dr. Elke Muchlinski 2002 11 characterized by the omission of certain coordination for at least two reasons: (a) The central banks were not independent, and (b) the controversies on macropolicies en general dominated because many countries struggled with inflation and high unemployment. Only one tentative attempt towards any coordination had been undertaken: The Tripartite Agreement of 1936 (Eichengreen 1994, 49). England and the United States shared the potential of hegemony. The willingness or capability of France did not emerge with clarity (Keynes 1933, C.W. XXI).
During the gold standard, i.e., the pound sterling standard, the pound sterling held a reserve function. The Bank of England dominated the discount rate policy for at least fifty years. Regarding the Bank's structure, issue and banking department, it worked not like a modern central bank (Eichengreen 1998, 579).6 Its capital inflows and outflows were conducted in sterling. Evidently, the Bank of England acted as a world banker. It regulated the international flow of capital by controlling discount rates. The pound sterling standard was a two-tier system of banking and money supply (Eichengreen 1998, 579). To be sure, the commitment to gold-convertibility by the Bank of England was credibly although it was widerly known that the circulation of Pound Sterling exceeded its gold reserves (Spahn 1998).
A differentiation must be made between a nation's world position serving as an international intermediary or as a world banker. The latter is part of the former. Nations serving as international intermediaries and as world bankers are able to induce short-term capital inflows and long-term capital outflows. In addition, only a world banker supplies Bloomfield (1959), Keynes (1913), Lindert (1969), McKinnon (1993) Explicit or implicit monetary coordination? Dr. Elke Muchlinski 2002 12 the world's liquidity denominated in its own currency (Tavlas/Ozeki 1992, 19ff.).
England's loss of the role as a hegemon began when it was struggling with inflation after World War I and made the decision to go back to the gold-parity of the pound sterling of the year 1925. One result of this policy was the amazing overvaluation of the pound sterling, the loss of competitiveness in international markets and the diminished liquidity premium of the Pound sterling (Keynes 1925). England's policy of focusing on external balance and high interest-rate policy was a strong contrast to that of America. The United States practiced a policy of neutralizing of the gold inflow to avoid easy money policy and inflation. Comparing both the overvaluation of the pound sterling and the tight money policy in the United States, it is obvious that England did not have any possibility of reducing the overvaluation of the pound sterling. The United States therefore prepared its hegemonic position which came into force by the implementation of the Bretton Woods Agreement in 1944. The United States served as a world banker from 1945 to 1980. To sum up this retrospective, the very roots of tripolarity can be found in the interwar period, although the Franc remained in the background.
The old configuration of tripolarity Applied to the contemporary world, the theoretical outline of a configuration of tripolarity leads to an old configuration of tripolarity that took shape with some clarity from 1985 to 1987 when the Plaza Agreement and the Louvre Accord established an agenda for the international monetary bargaining process. This process started after the abandonment of the gold standard as a final reference to define and assess the U.S.dollar, Explicit or implicit monetary coordination? Dr. Elke Muchlinski 2002 13 according to an official exchange rate of dollar to gold. With that abandonment, a new era of central banking and particularly monetary policy-making under uncertainty and its consequences for exchange rates commenced. At that time the anchored U.S.dollar, implemented by the Bretton Woods Agreement in 1944, had already broken down.
Briefly, the overvaluation of the U.S.dollar and the easy money policy in the United States at the end of the 1960s led to inflation in the United States and to a lack of confidence of this key currency. I would like to argue that the impossibility of a redemption of U.S.dollar in gold merely triggered off the dollar crisis, it does not caused it; the U.S.dollar was weakened by a diminished liquidity premium and confidence.
Reminding the policy of the Bank of England (BoE); the BoE defended successfully its credibility by the maintenance of the internal exchange rate of the pound and therefore the liquidity premium, but not by a certain amount of gold.
A tangible result of the Plaza Agreement of September 22 in 1985, was the abandonment of the policy of 'hands-off' and benign neglect which the United States had practiced up to that point.7 The immediate goal was to reduce the overvaluation of the U.S.dollar, whereas the Japanes yen's appreciation was welcomed by the Bank of Japan and the Federal Reserve System of the United States (Frankel 1984). It could have been the starting point for the yen's emergence as a key currency, but its period of appreciation ended in 1986 (Iwami 1993).8 The intented bilateralism between Japan and the United States, documented by the yen-U.S.dollar Committee in 1983, actually was the turning Decisive objections to and skepticism toward international coordination during that period are dominant in the literature; see, for instance, Kenen's review (1994), and Kantzenbach (1990).
Explicit or implicit monetary coordination? Dr. Elke Muchlinski 2002 14 point for the Bundesbank and the Bank of Japan.9 Both started to cooperate more closely on currency interventions during that time. Japan, which felt itself deceived by the United States because of the "US aggressive bilateralism", tried to transform bilateral commitments into formal arrangements with the Group of Five, later with the Group of Seven. This feeling of being deceived by the United States still seems to be valid until now (Funabashi 1998).10 The Louvre Accord of February 22 in 1987, documented an important view of the Group of Seven: "In current circumstances, therefore, they agreed to cooperate closely to foster stability of exchange rates around the current levels". Although debates among the participants on the definitions of "current level" only led to vague descriptions, Mundell (1996) concluded this discussion was a remarkable progress compared to the Smithonian agreement of August 1971.
Important for the understanding of the theoretical outline of a configuration of tripolarity is that Japan and West Germany were not willing to allow their currencies to become an international medium "particularly as a currency for private assets and official reserves - during most of the postwar period. In particular, the two governments limited borrowing by foreign residents in their domestic capital markets in d-mark or yen" (HenComprehensive researches provide McKinnon/Ohno (1997).
For the full text of the communiqué, see at Treasure News, Washington: U.S.
Department of the Treasury, 31 October 1986, cit. in Funabashi (1988, 160).
Japan, the United States and Germany relied on different diagnoses and strategies for their domestic policies. Because Great Britain and France ruled out taking less important actions during that time, one could argue that both they and other European countries were marginal players in trilateral relations between the United States, Japan, and Germany. Nevertheless most of the marginal players possessed certain background rules, negotiations, and proposals.
Explicit or implicit monetary coordination? Dr. Elke Muchlinski 2002 15 ning 1994, 317). Nevertheless, empirical and theoretical evidence supports the view that the market has provided a different response: the d-mark has become an international currency whereas the use of the yen in its functions as a unit of account and medium of exchange was restricted by particular pattern of trade (Frankel 1992).
All interdependencies in the exchange rate of the U.S.dollar and the d-mark should be seen in the broader context of the function of the d-mark as a key currency within the European Monetary System (EMS). This was evidently documented by the fact that interest rates in Germany were unaffected in the periods before realignments were carried out (Spahn 1988).11 The d-mark was accepted as an international currency in its function as a unit of accont, store of value and medium of exchange. Considering the official view of the Bundesbank during the second half of the eighties, its objections to having a key currency were due to concern about destabilizing exchange rates and jeopardizing price stability.
The role of the U.S.dollar during the 1980s and 1990s can be described as a relative declining in all three functions of international money.12 Its weight in all of the functions of an international money has changed gradually. The U.S.dollar's ups and downs during both decades are due, for instance, to the development of the U.S.dollar's effective exchange rate and to an increase of foreign exchange reserves in d-mark and Galati (1999) investigates the emergence and development of a "U.S.dollar-markaxis" as a result of how currencies responded to shocks according to the degree of interest-rate sensitivities.
DalBosco (1998) investigated the management of official foreign exchange reserves which is an important indicator regarding the function of money as an international medium of transactions and payments. Empirical and theoretical evidence on the Explicit or implicit monetary coordination? Dr. Elke Muchlinski 2002 16 yen. Both reasons refer to the role the U.S.dollar represented at that time, i.e., the function as a store of value, standard of deferred payment and medium of account.
One feature of the old configuration in summary is that the d-mark emerged as a key currency, whereas the yen lagged behind. The old configuration consists of three dominant, but unequal, currencies representing each of them the functions of money differently. However, the U.S.dollar-centered system still exists. Neither the informal end of the U.S.dollar-standard in August 1971 nor the currenct U.S. account deficit, has caused the U.S.dollar to be replaced.
The new configuration of tripolarity Applied to contemporary world, the theoretical outline of a new configuration of tripolarity consists of U.S.dollar, euro and yen. One new pattern is that the d-mark was displaced by a non-national currency and has been issued by a non-national central bank since the launch of the euro. If the European Central Bank (ECB) as a non-national central bank implies the highest degree of independence and credibility is still controversy among academics (Dornbusch/Favero 1998). The history of the pound sterling and U.S.dollar has told us that formal arrangements are not sufficient to establish a key currency. The competition between the pound sterling and the U.S.dollar was decided by economic and political performance, not by legal documents (Muchlinski 1998). Therefore it is necessary to refer the concept, i.e., euro, to representations of the U.S.dollar movements are reported by Frankel/Froot (1993) and Leahy (1996); for a more comparative analysis of the U.S.dollar, d-mark, and yen, see f.i., McCauley (1999).