Timothy Geithner’s Letter to the G20 Finance Ministers

I will be on BNN today at 12 Noon ET talking about the G20 amongst other topics, so I wanted to highlight this issue. Here’s the text first (with added bolding) and then a few comments:

First, G20 countries should commit to undertake policies consistent with reducing external imbalances below a specified share of GDP over the next few years, recognizing that some exceptions may be required for countries that are structurally large exporters of raw materials. This means that G20 countries running persistent deficits should boost national savings by adopting credible medium-term fiscal targets consistent with sustainable debt levels and by strengthening export performance. Conversely, G20 countries with persistent surpluses should undertake structural, fiscal and exchange rate policies to boost domestic sources of growth and support global demand. Since our current account balances depend on our own policy choices as well as on the policies pursued by other G20 countries, these commitments require a cooperative effort.

Second, to facilitate the orderly rebalancing of global demand, G20 countries should commit to refrain from exchange rate policies designed to achieve competitive advantage by either weakening their currency or preventing the appreciation of an undervalued currency. G20 emerging market countries with significantly undervalued currencies and adequate precautionary reserves need to allow their exchange rates to adjust fully over time to levels consistent with economic fundamentals. G20 advanced countries will work to ensure against excessive volatility and disorderly movement in exchange rates. Together these actions should reduce the risk of excessive volatility in capital flows for emerging economies that have flexible exchange rates.

Third, the G20 should call on the IMF to assume a special role in monitoring progress on our commitments. The IMF should publish a semiannual report assessing G20 countries progress toward the agreed objectives on external sustainability and the consistency of countries’ exchange rate, capital account, structural, and fiscal policies toward meeting those objectives.

With progress on these fronts, we should reach final agreement in an ambitious package of reforms to strengthen the IMF’s financial resources and its financial tools, and to reform the governance structure to increase the voice and representation of dynamic emerging economies.

I wanted to like this communiqué, but having had time to digest it, I have a few problems with it.  Let me highlight the good points, first, though.

Positives 

• Geithner’s letter is good diplomatically as it shows effort – and the substance of the letter is not entirely one-sided. The US Treasury Secretary demonstrates he knows this will be a multi-lateral effort. 
• I also like the fact that he focused on more savings in external deficit countries and greater domestic demand growth in the surplus nations. This is the heart of the issue for the US and China and within the Eurozone.
• Secretary Geithner also does well to mention raw materials exporters because countries like Chile or the OPEC nations face different constraints than do others.

Negatives

• When the Treasury Secretary talks about savings, he needs to focus on the connection between the household savings rate and the current account deficit (see here). The US trade deficit is not about "adopting credible medium-term fiscal targets consistent with sustainable debt levels and by strengthening export performance." This wrong. When it comes to savings, it is principally about excess household consumption driven by low real interest rates. and an asymmetric monetary policy. Moreover, medium-term fiscal targets and ‘sustainable’ debt have nothing to do with export performance. Can someone help me understand his logic?
• The exchange rate section, while couched in an inclusive framing is really all about getting China to stop manipulating its currency. Let’s be clear on that. Geithner recently stated that the U.S. will not depreciate its currency. Nevertheless, the dollar is clearly weakening, undercutting his words.
• The IMF has traditionally been seen as a tool of the American government. I am sceptical whether the Chinese or anyone else in Asia will want to see the IMF as the ‘neutral’ arbiter here. Remember, Geithner was an IMF official responsible for the tough austerity measures meted out in Asia in the wake of the Asian Crisis. Meanwhile, his Administration has been unwilling to do the same. Asians will see this and may be offended. It would have been better not to mention the IMF in this context.

Overall, it is not a bad effort. In terms of language, it’s the right approach. And it is directionally positive. That said, I am not optimistic this G-20 will be any more than a photo-op. Let’s hope I’m wrong and something substantive actually happens.