Introduction: The argument outlined

Proposals for coordinating monetary policy in order to stabilize nominal or real exchange rates, or to target monetary policy on the nominal exchange rate, assume, explicitly or implicitly, that (a) exchange rate fluctuations are, on balance, harmful to the economy, and that (b) monetary policy can productively reduce the amplitude of these fluctuations. The main objective of this chapter is to examine the analytical basis and empirical evidence for these assumptions. The conclusion is that both hold only some of the time. This means that a coordination agreement would have to define when the assumptions hold, a difficult task, indeed. Further, proposals for a formal international conference to implement a coordination agreement – a “new Bretton Woods” – assume that this is at least politically feasible. Toward the end of the chapter I argue that this is not the case, and that the failed World Economic Conference of 1933 is a more apt metaphor than Bretton Woods.

Movements in the real exchange rate of the dollar have had substantial effects on employment and output in U.S. manufacturing industries. At the level of all manufacturing, the elasticity of response of employment to the real exchange rate (up is appreciation) is –0.14. Thus a real appreciation of the dollar of 60 percent from 1980 to 1985 reduced manufacturing employment by 8.4 percent, or 1.7 million jobs.