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Jeffrey Frankel
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This week, Project Syndicate catches up with Jeffrey Frankel, Professor of Capital Formation and Growth at Harvard University’s Kennedy School of Government.
Project Syndicate: The recent US decision to label China a “currency manipulator” has been roundly criticized. The People’s Bank of China (PBOC), you wrote last month, merely “gave in to market pressure – the immediate source of which was none other than President Donald Trump’s announcement” of new tariffs on Chinese goods. But with Trump announcing yet another escalation in tariffs and pressuring the Federal Reserve to cut interest rates and weaken the dollar, could the label become a self-fulfilling prophecy, with both sides engaging in competitive depreciation?
Jeffrey Frankel: The US finding of manipulation was absurd. China has been intervening to resist renminbi depreciation since 2014. It is Trump who seems eager to engage in competitive devaluation, despite a February 2013 G7 agreement not to do so: he has been strongly urging the Fed to cut interest rates, with the explicit motive of pushing down the value of the dollar.
If the dollar does depreciate in the future, other monetary authorities, such as the European Central Bank, might respond by renewing their own monetary expansion, with an eye toward exchange-rate competitiveness. That scenario would have some characteristics of the type of “currency war” that is so often discussed, but direct intervention in the foreign-exchange markets still seems to me unlikely.
The Chinese, in any case, won’t fit the pattern. They are unlikely to take active steps to depreciate their currency in the foreseeable future. I do not think they want their currency to weaken substantially from where it is now.
PS: You argued last November that the Fed cannot take responsibility for offsetting the supply shock created by Trump’s trade war. If, however, that trade war – which has already hurt almost every segment of the US economy – undermines price stability and employment, the Fed would presumably have to take action to fulfill its mandate. Is the Fed fated to become a mere tool for offsetting the administration’s policies, independent in name only?
JF: I don’t see it that way. The Fed has a dual mandate: to sustain employment and to maintain price stability. (Its original mission was to safeguard financial stability.) As a result, it is not as clear as many seem to think how the Fed should respond to a trade war.
On one hand, a trade war hurts output and employment. Indeed, most observers attribute the slowdown in global growth over the last year partly to unfortunate protectionist trade policies. That would seem to suggest that the Fed should cut interest rates, to forestall a recession.
On the other hand, tariffs raise prices. That would suggest that the Fed should not cut interest rates, because inflation may already be headed higher.
This dilemma, intrinsic to a supply shock, means that the central bank could not offset foolish trade policies, even if it wanted to.
PS: Fed Chair Jerome Powell has acknowledged as much. And lack of monetary-policy space doesn’t bode well for responding to a recession, which increased stock-market volatility and an inverted bond-yield curve suggests is increasingly likely. What could be done, both in the US and by policymakers elsewhere, to counter the next downturn?
JF: When Powell, in his recent Jackson Hole speech, diplomatically hinted that the Fed can’t fix bad trade policies, he wasn’t making the point that with interest rates at barely 2%, it lacks monetary-policy space. Even if they had lots of room to cut interest rates, a central bank couldn’t fix bad trade policies any more than it could fix bad health or security policies.
Nonetheless, it is true – as a separate matter – that the Fed has much less monetary-policy space now than it has had at similar points in past business cycles. If a new recession does come, interest rates can’t be cut five percentage points as in the past.
I believe that policy ought to be generally counter-cyclical, to moderate swings in the business cycle. Admittedly, it is hard to get the timing right; but that is no excuse for pro-cyclical policies, which intensify the swings.
And yet too many politicians have effectively been pursuing pro-cyclical policies. When unemployment is near or below 4% – as it has been in the United States for more than a year – it is not the time for trillion-dollar fiscal deficits, ultra-low interest rates, and financial deregulation. Yet that is what we have gotten, meaning that we have little ammunition for responding to a recession. We should have spent the last three years keeping our powder dry – ready to be used when a recession does hit.
Trump and his supporters are not the only ones who act as if they believe in pro-cyclical policy. In the eurozone, fiscal and monetary policy has at times been pro-cyclical. German-driven austerity in times of recession is a notable example. And most developing countries have long followed a pattern of raising spending during booms, only to be forced into austerity when the downturn comes.
PS: Many view the emerging trade dispute between South Korea and Japan as inspired by – and patterned after – Trump’s trade policies. What might be the consequences of this new trade disruption? Could it be a harbinger of a broader global shift toward protectionism?
JF: I also put some of the blame on Trump for the tit-for-tat trade dispute that broke out between Japan and Korea in early August. Trump not only set a bad example with his aggressive trade policies, but has also abdicated the leadership that previously held the three-country alliance together.
The prospect of a Korea-Japan trade war is alarming. It would be one of the first signs that a breakdown in the rules-based global trading system may extend beyond the manic flailing that is now US trade policy. (Admittedly, the Brexit vote predates Trump.) The national-security implications are even more serious than the economic ones.
The Asia-Pacific region is beset by risks, including the US-China rift, a nuclear North Korea, and Russian troublemaking. In this context, it is especially necessary that South Korea and Japan get along.
It was not pure luck that the second half of the twentieth century was a time of unprecedented global peace and prosperity. Though US leadership after World War II was frequently flawed, it was, overall, integral to establishing the international rules and institutions that promoted not just free trade, but also economic growth, democracy, and human rights. It is a tragedy that the US under Trump has been acting to reverse those historic accomplishments.
BY THE WAY . . .
PS: You recently tweeted that “Trump is unwittingly testing out and verifying some textbook trade propositions, such as when you use tariffs to cut imports, you end up cutting exports too.” What other economic models has Trump been testing, and with what effects
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JF: For starters, when you break international trade agreements, other countries tend to retaliate. (This is one reason why trade wars are not easy to win.) Furthermore, when country A imposes import tariffs against country B, country A’s currency tends to appreciate, undermining its firms’ price competitiveness. And the reduction in imports of A from B are partly offset by imports from C.
Ultimately, the trade deficit is not determined primarily by tariffs or other trade policies. Rather, the current-account balance is the difference between national saving and investment. A tax cut doesn’t pay for itself, but rather widens the budget deficit, reduces national saving, and increases the trade deficit (all other things being equal).
PS: Which Democratic presidential candidates do you think have the strongest credentials, in line with your proposed The Depth of the Next US Recession and your call for moderation?
JF: I am in favor of WCBT: Whoever Can Beat Trump. Each of the Democratic candidates has advantages and disadvantages, in terms of electability, qualifications, and compatibility with the sort of moderate proposals I previously described (practical economic policies that could ensure that the typical American worker shares in income growth).
I will say that I am not in favor of any candidate who has staked out certain positions, at least not if he or she continues to stick with them. WCBT is not someone who describes themselves or their policies as socialist. It is not somebody who favors a “Medicare for all” system that means telling families who currently enjoy employer-sponsored health plans that they must give them up. It is not somebody who says that decriminalizing undocumented immigration can be part of any workable immigration reform. It is not someone who thinks that climate-change legislation should include a provision to give a federal job to everyone who wants one. It is not someone who asserts that higher education, in general, should be free. And so on.
PS: A lot has happened since you wrote a year ago that the US has much to apologize for to the rest of the world. Care to add to the list?
JF: The list has by now grown too long. It would take an entire book.
Frankel recommends
We ask all our Say More contributors to tell our readers about a few books that have impressed them recently. Here are Frankel's picks:
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Open: The Progressive Case for Free Trade, Immigration & Global Capital
by Kimberly Clausing
Why should the anti-globalizers have a monopoly on the idea that the goal of maximizing GDP must be supplemented by human values, cultural considerations, and a concern for inequality? It is neither a paradox nor a coincidence that “liberal” can mean both “progressive” and “laissez-faire.” Would it be progressive for a consumer to discriminate against a product because it was produced by somebody of a different race, creed, or national citizenship? Reed College’s Clausing, a leading expert on globalization and international taxation, makes the case for an open economy, and outlines a progressive agenda to manage globalization more effectively.
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These Truths: A History of the United States
by Jill Lepore
I am intrigued by some of the incidental tidbits that Lepore, a Harvard historian and New Yorker writer, includes in her new book. Who knew that the (dreadful) Dred Scott decision of 1857 was only the second time that the US Supreme Court exercised judicial review over Congress?
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Enlightenment Now: The Case for Reason, Science, Humanism, and Progress
by Steven Pinker
The assertion is hard to believe, and Pinker – a psychology professor at Harvard – knows it, but “life, health, prosperity, safety, peace, knowledge, and happiness are on the rise, not just in the West, but worldwide.” For example, the English homicide rate is down by a factor of about 50 since the Middle Ages. Worldwide – including among poor countries – average life expectancy is now 71 years, up from 30 back then. About a billion fewer people are living in extreme poverty than in 1990.
The underlying reason is the legacy of the Enlightenment – that is, the philosophy of reason, science, and progress. Pinker is an all-too-lonely voice calling on us to appreciate these values, rather than take them for granted or even attack them and the institutions of liberal democracy they underpin.
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Clashing Over Commerce: A History of US Trade Policy
by Douglas Irwin
A talked-about economics book that amply rewards reading all 860 pages is rare. A very clear explanation of the overarching political economy of trade that frames America’s tariff history is even rarer. Irwin, an economics professor at Dartmouth College, delivers both.
Irwin persuasively divides this history into three segments:
- 1763-1865 – Revenue: Alexander Hamilton established tariffs that were no higher than necessary to fund the new government.
- 1865-1932 – Restriction: When the agricultural South lost the Civil War, it also lost the political power to counter-balance the protectionism of Republican manufacturing interests concentrated in the Northeast.
- 1932-2017 – Reciprocity: Learning from the catastrophes of the 1930s, the US led the world to an open rules-based multilateral trading system, from which all countries benefited.
From the PS Archive
From 2017
Early in Trump’s presidency, Frankel warned that economic conditions were far less stable than investors seemed to think. Read the commentary.
From 2019
This summer, Frankel argued that, rather than doubling down on their oft-missed 2% target, the Fed and other central banks should quietly stop pursuing it aggressively. Read the commentary.
Around the web
In an interview with Chosun Ilbo, Frankel answers nine questions about the US-China trade war and the emerging dispute between Japan and South Korea. Read the transcript.
Frankel discusses the renminbi/US dollar exchange rate and the Trump administration’s decision to label China a currency manipulator. Listen to the podcast.
In a conversation with the Harvard Gazette, Frankel analyzes the recent market selloffs and discusses the possibility of a US or global recession. Read the interview.
Winter Sale: Save 40% on a new PS subscription
At a time of escalating global turmoil, there is an urgent need for incisive, informed analysis of the issues and questions driving the news – just what PS has always provided.
Subscribe to Digital or Digital Plus now to secure your discount.
