Today we are fortunate to have a guest contribution written by Jeffrey Frankel, Harpel Professor of Capital Formation and Growth at Harvard University, and former Member of the Council of Economic Advisers, 1997-99.
Exactly 30 years ago, on September 22, 1985, ministers of the Group of Five countries met at the Plaza Hotel in New York and agreed on a successful initiative to reverse what had been a dangerously overvalued dollar. The Plaza Accord was backed up by intervention in the foreign exchange market. The change in policy had the desired effect over the next few years: bringing down the dollar, reducing the US trade deficit and defusing protectionist pressures. Many economists think that foreign exchange intervention cannot have effects unless it also changes money supplies. But the Plaza and a number of subsequent episodes of concerted intervention by the G-7 countries suggest otherwise.
In recent years foreign exchange intervention has died out among the largest industrialized countries. Seeing as how the dollar is again strong and the US Congress once again has trade concerns, some have asked if it might be time for a new Plaza. My answer is “no, not even close.” The value of the dollar is not as high now as it was in 1985. More importantly, its recent appreciation is based on the economic fundamentals of the US economy and monetary policy, measured relative to those of our trading partners, whereas in 1985 the appreciation had continued well past the point justified by fundamentals.
The Baker Institute at Rice University is holding a conference on Currency Policy Then and Now: 30th Anniversary of the Plaza Accord. Among the key figures participating is James Baker, who as the new Treasury Secretary that year was the main initiator of the agreement. My paper for the conference, “The Plaza Accord, Thirty Years Later,” reviews 1985’s coordinated policy of intervention in the foreign exchange market and contrasts it with the current “anti-Plaza,” a recent G-7 agreement not to intervene. I see fears of “currency wars” as way over-done.
The post written by Jeffrey Frankel.