Are the 3 Objectives Really Desirable?
Before continuing we need to give some thought to whether or not the three desired objectives are really something that the citizens of a country would want. They may seem like good outcomes to pursue, and it is very much in the spirit of Keynesian economics to pursue this type of macroeconomic management, so let's take a little time to consider the implications.
International Capital Mobility
International capital mobility leads to increased global economic growth because it enables money to be invested in the most promising ventures, in the most efficient locations.
Whilst this has made a huge contribution to lifting much of the world's poorest countries out of poverty, it has also undoubtedly contributed to the wholesale deindustrialization of the west, as many industries have been able to relocate their manufacturing businesses to countries where labor costs are much cheaper.
Whilst this has benefited western consumers with cheaper prices for those manufactured goods that are now imported from overseas, much of the cost has been borne by the unemployed workers in those industries that have disappeared. Economics treats people simply as factors of production, and does little to calculate the full human-cost of long-term unemployment resulting from people with non-transferable skills permanently losing their jobs.
As imports mounted, trade deficits blew up to sky-high levels, but capital mobility has meant that governments have been willing and able to borrow back the money that is flowing to foreign export companies. This has had truly awful consequences, because the eye-watering amount of borrowing that our governments have wracked up has not only burdened our economies with permanent crippling debt repayments, the vast bulk of the borrowed money has been squandered on one bad government project after another.
Furthermore, this massive borrowing from abroad has prevented the exchange rate from adjusting to the enormous trade deficit that has blown up over recent decades.
The effect of the government borrowing from foreign (relocated) manufacturers has been to prop-up the demand for domestic currency, and this has prevented a gradual depreciation that would have restored competitiveness for at least some of our key domestic manufacturers. The implication is that the wholesale relocation of our manufacturing industries to foreign shores has actually been aided and abetted by our own governments.
Whilst (as consumers) we have enjoyed cheap goods and lots of spending, these benefits cannot be maintained in the long-run. Our creditors will want to be paid back at some point, and they aren't going to allow us to simply borrow more money to make those repayments indefinitely. On the other hand, the costs of a lost manufacturing base, and financial insolvency, are permanent.
None of this devastation is directly attributable to international capital mobility itself, but our experience has clearly demonstrated that it does at least provide an avenue for our self-serving political elites to pursue their own globalist interests at the expense of our own domestic economy.
Stable Exchange Rate
A stable exchange rate comes with reduced risk for international trade. This is a benefit to all countries that enter contracts for orders that take time to fulfill, because it eliminates the chance that a foreign currency, i.e. the buyer's currency, will have fallen in value.
The problem here comes when the exchange rate is maintained at a stable value that is not the correct value. All fixed exchange rate systems have collapsed over time because different countries develop at different rates and have different rates of inflation.
The implication is that the exchange rate needs to be allowed to adjust to a rate that maintains competitiveness for domestic companies, otherwise a persistent trade deficit/surplus will develop.
Independent Monetary Policy
An independent monetary policy enables governments to boost their economies, or cool them down, in order to smooth out the business cycle.
The problem here is that there is a great deal of disagreement about the root cause of the business cycle, and even more disagreement about the government's ability to manage it. There are serious difficulties that arise from active demand-management policies and evidence of the government providing any sort of 'smoothing out' of the economy is in short supply.
Inappropriate government policy is often the cause, rather than the remedy, of short-term economic fluctuations. Monetary autonomy simply facilitates the construction of those inappropriate policies.
Mundell Fleming Trilemma - Conclusion
If allowing governments the ability to choose their two most desired policies from the three available options described by the Mundell Fleming trilemma is meant to achieve better economic outcomes, then the experiences of recent decades has amply demonstrated that this has failed.
Throughout the 1980s, and even more so throughout the 1990s, the developed countries and the emerging economies have willingly increased their levels of capital mobility. This has led to a consumer boom in the west that for a long time looked like successful economic policy, but deindustrialization has gradually led to massive deficits on the current account of the Balance of Payments, and these have facilitated extensive rates of government borrowing on the capital account.
As western governments borrowed, they convinced themselves that it was perfectly sustainable to do so, because inflation appeared to have been kept in check. In reality, domestic inflation was masked for two reasons:
- It measured the costs of imports, which were getting much cheaper due to economies of scale in China and other developing countries as western manufacturing increasingly relocated there.
- The key domestic barometer for inflation, i.e. housing and real estate, was excluded from the official measures of inflation (even as a huge housing boom in the run up to 2007/08 plunged the west into its worst peacetime economic meltdown in living memory).
The sheer level of total incompetence demonstrated by western governments and central bank governors is impossible to express in a way that can convey just how awful their performance has been, but at least it should consign to the dustbin any notion of a worthwhile active Keynesian economic policy role for those governments in the future... except that it won't!
The lessons of failure have not been learned, the west is now paralyzed by its crippling debt, and free-market capitalism will probably be scapegoated for the failings of inept government policy-makers.
To the extent that these failed Keynesian economists are removed from their policy-making roles in future, it will most likely only be so that the far worse Modern Monetary Theory aficionados can take their place, and that puts the west in a very bleak position as far as future prosperity is concerned.
The emerging economies on the other hand have fared much better since the 1980s. China in particular has experienced economic growth of an enormous magnitude that has lifted over a billion people out of poverty, and it now has a middle-income economy. Unfortunately, it too has suffered a great deal of mismanagement by hopeless government officials, and its real estate market looks set to collapse.
China is a major creditor to the western economies, but I suspect that much of its western currency denominated financial assets are going to be worth considerably less than anticipated once the consequences of western profligacy come to fruition. Nevertheless, the emerging markets appear to be much better positioned to prosper in the coming decades than their unfortunate associates in the west.