What is this …

This article on Bloomberg is something I largely disagree with – however, there is statement that needs more discussion.

Quantitative easing is “terrorizing” the world economy and will lead to depreciation of the U.S. dollar, pushing down prices in Europe and exacerbating the continent’s sovereign debt crisis, Mundell said.

The European Central Bank’s mandate to control inflation would likely hamper it from stemming the euro’s rise, while the currency’s gains would “likely lead to deflation,” said Mundell, who received the prize in 1999 and is known as the intellectual father of the euro. Falling prices would increase “the real value of indebtedness.”

Mundell is a genius, and one of the intellectual fathers of open economy macro, but what is this.

He is saying the the ECB won’t loosen policy because it fears inflation, but a rising euro will lead to deflation.  By the same logic, shouldn’t the ECB loosen policy to prevent deflation.  The same logic.  What the …

On the Chinese side, I disagree with the majority of what they are saying.  But:

The U.S. “has not fully taken into consideration the shock of excessive capital flows to the financial stability of emerging markets.”

Is a fair point.  Places where credit institutions are weak could be at risk in the case where global monetary policy is softened.  IMO, this implies that there should be more pressure on these places to make risks transparent and to work on institutional setting – not that countries facing deflationary pressures should just ignore them.

If the institutional setting is appropriate, then loosening global monetary policy in the face of higher than “natural unemployment” rates is a good thing both in terms of:

  1. Meeting inflation targets and ensuring that the deviations from the “natural rate” are as small as is efficient.
  2. Pushing countries who have an inflation mandate but have been fiddling the currency to either revalue OR force them to take on greater capital controls – which will also lead to larger asset losses for them.

I’m unsurprised China is not impressed – if the US is devaluing they face a loss on the capital value of their reserves.  This does not mean that it isn’t good policy – and if they are going to fiddle exchange rates this is a risk they had to face!