The severity of the present crisis is an opportunity to remedy deep-seated problems. A fundamental (not proximate) cause of our economic plight is the imbalance in current accounts – in particular between the US and China – during the past decade. We can choose our narrative tone – for example, that US spending saved the world from a decline in growth as the east Asians and some others built up their reserves through export-led expansion.
Alternatively, the reckless US financial system and irresponsible American consumers accommodated the Chinese mercantilism as the dollar became overvalued and the Chinese built up reserves and maintained an undervalued exchange rate. Of course, both are true. But there is a bigger truth.
The global system as governed by the International Monetary Fund is asymmetric in its approach to deficit versus surplus countries. The IMF has an important operational function – to provide financing to deficit countries that experience a crisis in their balance of payments because of unavailability of external finance in a convertible currency. While the Fund also has provisions prohibiting the manipulation of exchange rates to achieve competitive advantage (what we call a competitive devaluation), there is no operating approach to redress this distortion to fair trade.