The U.S. Dollar: Victim of the Classical Keynesian Divide

Includes: UDN, UUP
by: Bob McTeer

Last year I said that I felt about a strong dollar like St. Augustine felt about chastity. "Lord, make me chaste, but not just yet." My version was, "Lord, give us a strong dollar, but not just yet."

My point was that while a strong dollar had benefits in normal times it would make a recession worse and more difficult to recover from. If someone from on high decrees a stronger dollar in a recession, our exports would be more expensive to potential foreign importers and imports would be more affordable to us at home. The decline implied for net exports pulls down GDP.

On the other hand, if aggregate demand is sufficient for a reasonably full-employment economy, then a weak dollar is not needed for recovery and a strong dollar will raise our standard of living. It makes it cheaper to import goods and services from abroad and it keeps domestic producers' and potential exporters' feet to the fire to maintain competitiveness. I haven't heard the term in a long time, but it improves our terms of trade. That means we don't have to pay as much in exports for a given amount of imports.

The dollar is but one example of the confusion that arises if you aren't clear about whether you are in a "normal" classical world where efficiency and rising living standards are the issue or whether you have to adopt Keynesian thinking to get out of recession. I never quite understood why, but Keynes was almost a dirty word among most of my professors. It just seemed to me that his General Theory was special-case economics and it wasn't worth getting all worked up about. (Of course I kept that sentiment to myself on exams.)

It seems too simplistic, but I think the main problem was that Keynes's emphasis on making up shortfalls in private spending with government spending was interpreted as his being a "big government" man. So much emphasis on government spending seemed inconsistent with their belief in a free enterprise system. So, you were either for the government or for the market. They didn't buy the "special case" argument or the idea that you might have to deviate from the ideal a little to save it. That reluctance lives on today.