More on TPP and Exchange Rates

December 1, 2015 5:45 PM

tpp-60The currency side agreement to the Trans-Pacific Partnership (TPP) could be a step in the right direction, but only if the United States, in particular, actively holds its partners to account and ensures that all forms of currency intervention are included in the purview of this agreement.

Fred Bergsten and Jeff Schott recently provided an excellent summary of the path-breaking TPP side agreement on exchange rate policies, the “Joint Declaration of the Macroeconomic Policy Authorities of Trans-Pacific Partnership Countries.” To make this agreement useful, the US Treasury is going to have to step up its game significantly.

As Jared Bernstein points out, the main flaw of the side agreement is that it contains no enforcement mechanisms.1 TPP partners merely reiterate the obligation they already have as members of the International Monetary Fund (IMF) to “avoid manipulating exchange rates ... to prevent effective balance of payments adjustment or to gain an unfair competitive advantage.” Given that several current and prospective TPP partners have violated this obligation in the past, why should we expect different behavior in the future?

An optimistic answer is that the new consultation process described in the joint declaration has the potential to shine a spotlight on bad behavior that could raise the discomfort level for policymakers engaged in currency manipulation. Maybe so, but the United States and other potential victims of currency manipulation are going to have to be ready and willing to shine that spotlight. The US Treasury, in particular, refused to name and shame manipulators in its semiannual foreign exchange reports even during the height of currency manipulation in the mid-2000s.

Moreover, countries must not be allowed to hide their manipulation by claiming that the activities of sovereign wealth funds (SWFs) or public pension funds are outside the scope of this agreement. In that regard, it was a mistake to limit the reporting requirements under the agreement to purchases of foreign exchange reserves. Many countries do not include foreign assets held by SWFs or public pension funds in reported foreign exchange reserves. Yet, the effect on the exchange rate of buying foreign assets does not depend on the name of the government-controlled entity doing the buying.

At the insistence of some of our TPP partners, the consultation process covers all macroeconomic policies, even though member obligations in the IMF cover only external macroeconomic policies. Given that domestic macroeconomic policies (including quantitative easing) also have spillovers to other countries, it is not unreasonable to include them in the discussion. But we must not forget that operations in foreign markets have far greater impacts on trading partners than purely domestic operations. In any event, foreign exchange purchases by SWFs and pension funds clearly are external macroeconomic policies and thus must be included in the discussion.

Singapore poses the ultimate test of the new agreement. Essentially all social security revenues net of disbursements are invested in foreign assets through the Government Investment Corporation, Singapore’s main SWF. This gives Singapore a structural current account surplus of nearly 20 percent of GDP. If Singapore’s institutionalized currency manipulation is allowed to continue, then any TPP member that wants unfettered ability to manipulate its currency will do it through an SWF or public pension fund. Japan recently took a step in this direction by increasing the share of its public pension fund invested in foreign assets.

It would not be sensible to outlaw foreign investments by SWFs or pension funds. What is needed are guidelines that restrict a government’s ability to funnel more assets abroad than private firms normally do when serving the same purpose. In the case of Singapore’s pension-driven SWF, the restrictions might be: (1) to not overfund future pension liabilities; and (2) to divide holdings between domestic and foreign assets in a proportion similar to holdings of private insurance companies, mutual funds, and pension plans in countries of a similar size.

The TPP side agreement on currencies will be meaningless if no restriction is placed on currency manipulation via SWFs or other government accounts that are not labeled as foreign exchange reserves.


1. Senator Charles Schumer’s amendment to the pending Customs bill contains a modest step in that direction by authorizing countervailing import duties against countries that manipulate their currencies. It is not clear whether Schumer’s provision would stand up to a challenge under the World Trade Organization, but it is worth trying.

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Joseph E. Gagnon Senior Research Staff

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