Deutschmark uber Alles?

National Review, Sept 14, 1992

A FEW YEARS AGO, before the lingering recession, a sharp fall in the dollar/mark exchange rate would have meant higher shortterm interest rates in the United States. Not now. The Federal Reserve has apparently opted for an orderly fall in the dollar, on the assumption--the correct one, we think--that the problem lies with overly tight policy in Bonn rather than too much ease in Washington.

Domestic price stability--which most economists see as the only attainable goal of monetary policy-- is right on track. Over the last 12 months consumer prices have risen 3.2 per cent, while producer price inflation has been held to a mere 1.7 per cent. For more than three years the price of gold has fluctuated in a narrow band between $340 and $350 per ounce, indicating that growth in the U.S. money supply has not deviated appreciably from growth in the demand for money.

Meanwhile the Bundesbank seems to have completely misjudged the German monetary situation. There are two major reasons why the German money supply is growing at nearly twice the 3.5 to 5.5 per cent target range set by the central bank. First, economic recovery in the East German economy is creating unexpectedly rapid increases in the demand for bank credit to finance new investment. At the same time, higher interest rates have lured German investors from stocks and bonds into lowrisk bank deposits, creating an artificial pop in the official money measure. Neither of these are inflationary signals.

The rise in European interest rates following German unification has already visited economic stagnation on the UK and on the continent. Unfortunately, the Maastricht Treaty, if it is ratified, will condemn Europe to follow the Bundesbank's latest anti-growth policy. This is bad news for the U.S. also: the EC is our largest trading partner, absorbing more than 27.3 per cent of our exports (far more than Canada) and accounting for 21.5 per cent of our imports (more than Japan).

Margaret Thatcher recently characterized Maastricht as "a treaty too far," a treaty that isn't needed and isn't wanted. Events are proving her right.