The East Asia Equation in American Monetary Policy

As developed economies including the United States try to crawl out of the effects of the financial crisis, China’s increasing influence on the global sphere has become a critical consideration in the equations of trade and finance. Daniel Franklin, Editor of The Economist’s World in 2011 opens his editorial with the following:

In a year that will delight numerologists (especially on November 11th, or 11:11:11), the most notable number will in fact be two. It will be a tale of two economies: a rich world struggling with a weak and jobless recovery, and an emerging world growing four times as fast. 

At home in the U.S., the Federal Reserve introduced a monetary policy called QE or quantitative easing in 2008 in an effort to revive the ailing U.S. economy. QE involves the government buying bonds to increase the money supply in the economy in order to stimulate lending and spur economic activity. A second round of pumping money into the U.S. economy ($600 billion), commonly known as QE2, was announced in November 2011. More recently, on January26th of this year, the Federal Open Market Committee (FOMC) reaffirmed its position to continue with the QE2.

While critics of QE2 point toward, among other things, Japan’s experience of implementing quantitative easing from 2001 to 2006 and whether or not it had any impact on the economy, there has also been a build-up of voices from abroad expressing concerns against the policy. Central to the concerns of China and the emerging world is the notion that a policy such as QE2 is an attempt to drive the dollar down.

Depreciation of dollar with respect to floating-rate currencies as a result of increased supply of dollars is a predictable result as the “rise in the volume of dollars [causes] the value of each dollar to fall relative to the floating currencies, whose volume has remained constant or risen more slowly”. Such an outcome worries China which has so far allowed only a slight appreciation of its currency (Renminbi, unit=Yuan) keeping its exports cheaper. The Chinese Prime Minister Wen Jiabao explicitly mentioned that China does not want more rapid appreciation of the Renminbi keeping in mind the potential adverse impact on Chinese exporters.

While the centrality of economic concerns in policy making is of the utmost importance, countries in Asia including Japan face an equally dominant concern. A special report on China’s place in the world published by The Economist links the twin concerns of Asian countries, namely economics and security, to the dual need that many Asian countries face, noting “naturally, Asian countries want to have it both ways: to resist China’s power but to continue trading with it; to benefit from American security but without sacrificing Chinese commerce.” The report also says China has risen as a chief trading partner for most of Asia and in the eyes of the economists and businesspeople, China getting richer means gain for everyone – the rest of Asia finding a bigger market in China and vice versa. However, from a security standpoint, the report states, “In a troubled continent like Asia, countries therefore look to America to save them from an increasingly powerful China—to ‘the water far away’ for protection from ‘the fire nearby’”.

In the specific case of the relations between Japan, China and arguably, the U.S., Professor Hugh Patrick, Director of Columbia’s Center on Japanese Economy and Business, notes that rapid growth in export has played a key role in Japan recovering from recession and that the increase in exports, for the most part, come significantly from “renewed growth and increase in demand of East Asian economies, especially China”. Patrick also notes that one of the major challenges Japan faces is how to deal with China. He states that the “two pressing issues that will define the relationship [between Japan and China] will be “[t]o what extent do Japan’s economic interests align with those of China?” and “[w]ill the two countries be able to agree on a common set of East Asian regional rules for trade, [Federal Direct Investment], or exchange rates?” The above questions, he argues, “raise issues that extend beyond economics, and, inevitably, the United States will be involved in trying to answer them”. On a much broader international level, the interconnectedness and interdependence between currency exchange rate, export and monetary policies such as quantitative easing are now culminating into a fear that a currency war may be imminent.


Akira Kojima, a Senior Fellow at the Japan Center for Economic Research (JCER) and Visiting Professor of National Graduate Institute For Policy Studies (GRIPS) articulates the current tensions and the resulting sentiment in Japan as follows:

In 2010, China overtook Japan as the second largest in the world in terms of total GDP, a position that Japan has held since 1968. How to come to terms with a rising and more demanding China will be an issue of increasing importance in Japan in 2011. Tension on the Korean peninsula is another of Japan’s worries, which, together with the China issue, is forcing Japan to reconsider the nature of its alliance with the United States. 

Echoing the changing dynamics of U.S.-East Asia relations in Davos at the World Economic Forum on 29 January was Prime Minister Naoto Kan of Japan. In his speech, Prime Minister Naoto Kan of Japan welcomed China overtaking Japan as the world’s largest economy and said, “the world faces major changes that can be likened to a tectonic shift both in the national security and economic fields”. Recognizing the importance of Japan’s relationship with China, he also noted that Asia is “the centre of major tectonic changes” and against this background the Japan-U.S. alliance “is becoming even more important” and should continue to play a key role in the Asia-Pacific region.

This Thursday, February 3, Japan Society presents the expert panel What Impact Will Monetary Easing Have on U.S. & Global Economies, featuring Nomura Securities’ top bank researcher Brian Foran and chief U.S. Economist David Resler, Columbia Business School’s Alicia Ogawa, and Financial Times’ U.S. managing editor Gillian Tett, the award-winning author of Fool’s Gold and Saving the Sun. Moderated by Bloomberg News anchor and reporter Kathleen Hays, the event is free to the public with pre-registration required.

A.T.