Wall St. and Business Wednesdays: ...Notes From The CATO Institute/Economist Magazine "Monetary Institutions and Economic Development" Conference

Last week I attended the CATO Institute’s 23rd annual monetary conference in Washington, D.C. The gathering brought together some of the world’s top economists, government and multilateral officials and financial market specialists, for presentations, panel discussions, debate and networking. Here are a few of my notes from the conference:

...IMF Managing Director, Rodrigo de Rato gave opening remarks at the conference and gave his critique of the forces that impede economic growth – specifically pointing to political lobbies, vested interests and corruption. It was in that context that he discussed his topic, "Building Better Institutions." He was clear to point out the inaccuracy of the stereotype that corruption and impediments to economic growth are largely a developing nation monopoly, mentioning the example of Enron in the United States to punctuate his point. He did however, speak to the phenomenon of developing nations suddenly stumbling upon or being blessed with great natural resource wealth and the challenges that scenario can pose for a country that does not have strong institutions in government and society. Mr. de Rato praised the work of Transparency International in their efforts centered on the problem of corruption in government, around the world. An interesting and major focus of the IMF Managing Director’s remarks was inflation targeting, the hot topic every where it seems. The former Minister of Economy for Spain mentioned that inflation targeting is the monetary regime of 21 nations today, having started in New Zealand years ago, and he gave a ringing endorsement of it, referring to recent research conducted by the IMF which he says shows it works in emerging markets. Mr. de Rato opined, "Does inflation targeting work outside of industrialized countries? The answer is yes. Inflation targeting is associated with a 5 percentage point reduction in average inflation. There is also less volatility in inflation: the standard deviation of inflation is reduced by over 3 ½ percentage points. These benefits come with no adverse effects on growth. In addition, not only is inflation less volatile under inflation targeting, but so are interest rates, exchange rates, and international reserves."...

...In the panel discussion that immediately followed Mr. Rato’s remarks, Federal Reserve Vice Chairman, Roger W. Ferguson, Jr. raised eyebrows, by, in the view of many, taking a shot at inflation targeting, and indirectly, President Bush’s nominee to be Chairman of the Federal Reserve, Ben S. Bernanke who openly favors it. Mr. Ferguson unambiguously stated that he has not been, and is not a proponent of inflation targeting and cautioned those in attendance - alluding to those in the media as well – to not be so quick to assume that the Federal Reserve is going to suddenly adopt an inflation targeting regime by which it will guide U.S. monetary policy. Mr. Ferguson said he knows that there is a great discussion taking place about it but he "wants to offer caution," explaining that it will take a consensus from within the Federal Reserve Board of Governors and Open Market Committee (FOMC) as well as other factors before something like inflation-targeting would become a reality at the American central bank. Balancing these latter remarks, earlier in the panel discussion, Mr. Ferguson did state that under "the current low core inflation," inflation targeting could work in the United States and not affect or disrupt the monetary policy process...

...China dominated much of the discussion at the conference, and in particular, exchanges and presentations on three separate panel discussions. In the panel, "Monetary Credibility and Sustainable Development," Jonathan Anderson, Chief Economist for Asia at UBS in Hong Kong, made a favorable case for China’s approach to economic growth, seeking to dispel what he said were ‘myths’ about China – such ‘notions’ like China pours money into poorly run state-owned enterprises (SOEs); Chinese firms don’t make money; Chinese banks haven’t changed in 10 years; and Chinese banks don’t make profitable loans. Mr. Anderson’s arguments were countered by Morris Goldstein, the Dennis Weatherstone Senior Fellow at the Institute for International Economics who stated that China’s currency was undervalued by 20 to 30 percent and that such a revaluation would not be harmful for China to undertake as many argue. Mr. Goldstein also made the point that China’s stockpile of foreign exchange reserves was excessive for its economic needs and the reform of its banking system (During a break when I presented him with some of the salient points of Johns Hopkins University Applied Economics Professor, Steven H. Hanke's analysis of China - that are opposite those of Mr. Goldstein - he told me that he finds such arguments "unpersuasive." Mr. Goldstein also indicated he found the arguments of Mr. Anderson also to be unpersuasive.) In the panel, "Financial Market Liberalization And Economic Development", Deepak Lal, Professor of International Development Studies, at the University of California, Los Angeles; and Yasheng Huang, Associate Professor of International Management, MIT Sloan School of Management also made impressive arguments on the Asian nation. The former, Mr. Lal, made the case that China’s "economic miracle" is real but is showing danger signs, particularly as it relates to the Chinese government's subsidizing of the country’s SOEs. He explained, "This continuing subsidization of the SOEs to meet the ‘social burdens’ imposed by the past development strategy based on promoting heavy industry through planning, is leading to serious problems of economic management and inefficiencies in the allocation of investment and could also pose a threat to a continuation of the high rate of household savings – the fuel of the Chinese economic miracle." Mr. Lal was also critical of the way China uses its $700 billion in U.S. dollar reserves, saying that only $100 billion of that amount is needed to fend off a speculative attack on the Chinese currency, the yuan. The rest - $600 billion – he suggests be put in a Social Reconstruction Fund (SRF). Mr. Huang, wowed conference panelists with his presentation, with visual aids, which made the case that China’s ‘poor financial system’ is hurting microeconomic development of private firms and rural residents. Mr. Huang showed grabbing photos of what he said were under-funded schools in China and wasteful construction projects, He strongly argued that China’s real economic boom took place in the 1980s and not the 1990s, which he said in many respects has been a period of regression. A final and very interesting exchange took place on the final panel discussion, "Emerging Markets, Debt, And The Dollar," where both John H. Makin, Senior Fellow at the American Enterprise Institute; and William A. Niskanen, Chairman of the Cato Institute discussed the subject of whether or not China and other countries were buying U.S. Treasuries not to primarily store foreign exchange reserves or to reap profit from the interest they accrue; but, rather to actually prop up the value of the falling dollar in order to facilitate the sale of their own exports to America. The argument being that the stronger the dollar is, the more likely Americans are able to afford foreign exports...

...Although constrained by time, Reuven Brenner, REPAP Chair in Economics at McGill University made an intriguing presentation, "The US Dollar and Prosperity: Accidents Waiting To Happen." After laying the groundwork, with his unique thesis that "every society has five sources of capital: 1) inheritance, transferred in various forms, and ‘nature’ (through natural resources) 2) savings 3) access to financial markets. If access to these three sources of capital is hindered, there are only two others left: government and crime," Mr. Brenner generated some laughter when he alluded to the possibility that some times governments are criminal enterprises. He then went into a presentation that merged many of his own previously stated insights with those of Nobel Prize Economist Robert Mundell and the late supply-side economics "high priest," the late Jude Wanniski. Making the case that there essentially have been four dominant monetary regimes in recent decades – monetarism, currency boards, CPI target (inflation targeting) or a fixed currency rate tied to a market price (a gold standard), Reuven Brenner suggested that the U.S. dollar, as the world’s reserve currency, should tie its currency to a market price, specifically the price of gold, arguing that, "stable money is a necessary condition for developing markets." By doing so, he explained, the stage is set for prosperity which is brought about by "matching talent with capital, and holding both sides accountable." Mr. Brenner’s presentation contained a warning about the declining affairs of the dollar, "The effects of weakening the US dollar, and delaying a stable solution for managing it for the reserve currency that it presently is, should not come as a surprise either. However, postponing this problem could bring about nasty surprises not only in the United States but also around the world."

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The CATO Institute conference, co-sponsored by The Economist magazine represented an eclectic and powerful mixture of academic and professional thinking and experience, creating a forum for the natural tension between theory and application; and principle and practice. Representing establishment, contrarian and cutting edge views on monetary policy and economic development, the one-day event represented a powerful microcosm of Western views of economic and financial developments in the context of global political change.

To learn more about the conference and to watch and hear portions of it, please visit http://www.cato.org/events/monconf23/program.html".

Cedric Muhammad

Wednesday, November 9, 2005