Barry Eichengreen: The RMB will Supplement Rather Than Replace the Dollar
2022-05-30 16:48:30
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Global macro investors mostly agree that macroeconomic issues and variables around the world will affect all investment strategies. Nowadays, we seem to be facing more and more unconventional and uncontrollable variables: global inflation is making a comeback in a new shape, the COVID-19 pandemic is changing, Russia and Ukraine are at war, China and the US central bank policies are moving in the opposite directions, the future of digital currency and private cryptocurrencies is unclear…
In the interview with PKU Financial Review, George C. Pardee and Helen N. Pardee Professor of Economics and Political Science at the University of California, Berkeley, Barry Eichengreen states that, what behind the current inflation is a conflict between strong demand (a legacy of fiscal stimulus in response to the COVID-19 pandemic) and ongoing supply disruptions, and even if inflation is now peaking, it will decline very slowly. Central bank policies, geopolitical events, and global energy prices will all affect asset prices both in China and the United States. China's trade and financial partners in Asia will hold and use the RMB more widely, but the RMB will supplement rather than replace the dollar.
What's Wrong with Our World?
PKU Financial Review: What do you think of the long-term impact of the COVID-19 pandemic on us? Will it hurt people's political participation?
Barry Eichengreen: In my research with Cevat Aksoy and Orkun Saka, we find that epidemics reduce trust on the part of the public in their governments -- in the trustworthiness of governments, leaders and elections.  This effect is evidenced most strongly among young adults -- those in the 18 to 25 year old age range, what are known as the impressionable years. And the effect is very persistent; it last for the balance of the affected individuals' lives. We base this conclusion on a study of earlier epidemics, but I would argue that the effect is likely to be the same in the case of COVID-19. So if trust in government is permanently damaged, then it follows that political participation is likely to be negatively affected.
PKU Financial Review: Now the United States and Europe are facing the threat of inflation. Do you think this round of inflation is global and persistent? What do you think of the causes of this inflation?
Barry Eichengreen: Our current inflation reflects a combination of strong demand (a legacy of fiscal stimulus applied in response to the pandemic) and ongoing supply disruptions. Events in Shengzhen are an indication that the supply disruptions are likely to persist, contrary to the hopeful expectations of some that they would quickly die away. Demand may taper off slowly but my baseline expectation is that it will remain strong. So even if inflation is now peaking, as seems possible, it will decline only very gradually. We should expect inflation to remain well above central bank targets in both the Euro Area and the US in 2023, despite the fact that central banks are indicating a readiness to move faster.
PKU Financial Review: In this paper “Public Debt through the Ages”, you gave a very interesting idea is that if the government inheriting heavy debts ran primary surpluses for long periods in order to reduce those burdens to sustainable levels. So do you think the United States fits this episodes in the future?
Barry Eichengreen: I'm skeptical about the capacity of the US to emulate these earlier examples of countries that were able to run primary budget surpluses for extended periods. In 19th century cases, fiscal policy making was insulated from politics. In 20th century cases, the countries in question had encompassing coalition governments in which elements from different parts of the political spectrum were represented. The different political parties negotiated compromises in which everyone shared a bit in the sacrifices needed for fiscal consolidation. Where politics are more polarized, governments tend to spend on their favored programs while in office for fear that those programs will go by the wayside once they lose power to the opposition, and fiscal consolidation is generally not sustained. And US politics at the moment are highly polarized.
The other way that countries have successfully completed fiscal consolidation, of course, is by growing the denominator of the debt-to-GDP ratio. And the US has a solid record of growth in the past, together with good (if uncertain) prospects looking to the future. So there remains hope.
Where Will RMB Assets Go?
PKU Financial Review: At present, it seems that US is about to raise rates and China is cutting rates. What do you think about the allocation of these two sovereign bonds among global investors? Is it better to hold stocks or cash?
Barry J. Eichengreen: The US stock market has already officially "corrected," but US shares remain richly priced. So I worry that with the Fed now signaling that it is likely to raise rates even more raidly than previously indicated, there's a good chance that US shares will have further to fall. Is it better to hold stocks or cash, you ask? It's better to hold some cash. But in order to know when to move entirely out of stocks into cash, and then out of cash back into stocks, you have to be an astute market timer. And most market timers, in practice, get it wrong.
PKU Financial Review: How do you assess the position of RMB assets in the future world asset allocation? Will RMB become the central currency in Asia?
Barry Eichengreen: No question that the RMB will be held and used more widely by China's trade and financial partners in Asia. But it won't replace the dollar; instead, it will supplement the dollar. That a more multipolar or more diversified international monetary and reserve system is coming has been my view for a long time; it remains my view.
PKU Financial Review: In this Winter Olympics, China is vigorously promoting digital RMB. What do you think of the fact that some central banks have entered the field of digital currency? Also, which do you think is the preferred attitude of central banks towards private crypto currencies?
Barry Eichengreen: Central bank digital currencies (CBDCs) and private cryptocurrencies are, of course, entirely different animals. Central bank digital currencies are coming, no doubt. And the e-CNY already exists. In my view, however, it provides only modest convenience value for people resident in China compared to, say, AliPay and WeChat Pay. And it can't be used by foreigners; it can't therefore be used for cross border transactions. Someday this may change. But I suspect this "someday" is far away.
As for private cryptocurrencies, my preferred solution would not be to ignore the risks they pose or to tax them out of existence. Their issuers should be regulated like banks, and crypto-exchanges should be regulated like commodity exchanges. This will protect naive investors, preserve the stability of markets, and prevent these units from being used for money laundering, tax evasion and terrorist finance.

 George C. Pardee and Helen N. Pardee Professor of Economics and Political Science
 The University of California, Berkeley

 * This article has been translated and published in PKU Financial Review.