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Monday, September 19, 2011

BIS Quarterly Review Is Out

I always read these things, but right now they are particularly essential. Sept 19th issue. Even if you read nothing else, don't miss the brief recap of the events (only 13 pages). In particular, rates on junk corporate bonds escalated painfully. The syndicated loan feature is excellent from a risk standpoint also.

The article on trade sensitivity to real exchange rate changes provides something to discuss from a US standpoint. Low sensitivity to rate exchanges means that the real economy in a low IIT nation will experience high rates of economic drag (lower growth) when costs of imports rise. Applying this analysis to the tariff question and the wild inflation theory (just print money) shows up the limitations of US options:
Based on this intuition, the sensitivity of the trade balance to movements in real exchange rates should be much lower in a country with a low level of intra-industry trade (low IIT) than in a country with high IIT. Its imports are unlikely to fall significantly following a real exchange rate depreciation because no domestic industry can easily replace the imports that have become more expensive. Low IIT countries are typically those where raw materials or natural resources like oil account for a major share of imports. They could also be countries that have specialised in particular industries in order to benefit from a comparative advantage in some sectors. By contrast, imports fall much more in a high IIT country that depreciates its real exchange rate, as the country can more easily provide domestic substitutes for imports that have become more expensive. The sensitivity of the trade balance to the real exchange rate should therefore depend positively on IIT.
The article also considers import content of exports (ICE). If exports have a high import content, it is not reasonable to assume that depreciating your currency will redress your trade deficit much. So IIT measures the degree of overlap between import and export products (0 IIT if a country imports just products A & B and exports just products C & D; 1 if a country imports products A, B, C & D and exports the same products), and ICE measures dependency of exports on imports.

There's a table with different assessments of the two measures by countries, and it explains why Greece is staggering along without already going to its own currency. The rewards for Greece of being able to print money in the short term are not great.

Comments:
Hmmm, the U.S. has a very low ICE, and a middling IIT.

Isn't the problem with dollar devaluation more that we'd destroy the economy of OTHER countries, creating geopolitical instability?
 
Neil - I doubt that at this point with 9% unemployment and higher real employment that most people care.

If our economy continues down, we're certain to default anyway, and certainly one glance at the West Coast shipping stats supports the idea that our problems are already hurting China.

For most people in this country, the issue is more whether the stuff they need to live their daily lives would rise sharply in price, or whether a currency devaluation would result in more stuff produced domestically.
 
A currency devaluation will jack up energy prices
and increase the costs of all imports. This hurts savers
and spenders alike. You know where I stand on tariffs.

Sporkfed
 
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