International Monetary Power

3. Domestic Sources of International Monetary Leadership

Currency leaders enjoy various forms of influence and power. The “exorbitant privilege” of currency leaders, above all the ability to finance external deficits by issuing IOUs and thereby to delay adjustment, has in particular received great attention in the literature. But what produces currency leaders? What, in other words, are the sources of this central aspect of international monetary power? In the preceding chapter, Benjamin Cohen outlines the macrofoundations of international monetary power—that is, the general characteristics of states that allow them to delay payment of the continuing costs of adjustment or to deflect the transitional costs thereof. Cohen locates the principal sources of the Power to Deflect in states’ fundamental economic characteristics, in particular in their relative economic size and openness. He goes on to identify the primary sources of the Power to Delay in states’ overall liquidity position (the sum of their foreign reserves and access to international credit). In this chapter, I build on this contribution while drawing attention to other elements of the literature on monetary policy. I do so in order to argue that there are two additional prerequisites of international monetary leadership, having to do with domestic policies and institutional arrangements. First, currency leadership requires a relatively conservative monetary policy from the leader that is credibly embedded in its domestic political and economic institutions. This credible policy framework helps to produce willing followership on the part of the key audience, private market agents, as well as other national monetary authorities. Second, currency leadership also depends on a related set of institutional arrangements that facilitate the emergence of highly developed financial markets. I dis-             Domestic Sources of International Monetary Leadership Andrew Walter I thank Eric Helleiner, Randy Henning, Jerry Cohen, Jonathan Kirshner, Scott Cooper, Bob Hancké, and various other participants at the Florence conference for their very helpful comments on an earlier draft. Special thanks are due to David Andrews for his detailed comments. None are responsible for any remaining errors. 51 cuss other prerequisites for monetary leadership also, but the main focus is upon these two. Currency leadership is a form of monopoly power, and the leader may try to exploit this power to achieve particular ends. In the short run, an established leader may use this monopoly power to exert substantial influence over other states’ policies , even if this attempt is seen as illegitimate by followers. For example, the United States was able to exploit its currency leadership position in the 1960s and 1970s, delaying the continuing costs of adjustment and deflecting the adjustment’s transitional costs on to others. In the long run, however, the persistent exploitation of monopoly power may undermine the foundations of currency leadership itself. For example, excessively expansionary U.S. monetary policy in the late 1970s threatened to undermine the willingness of private market agents to continue to hold dollar assets , requiring a shift back to a more conservative and credible U.S. monetary policy after 1979.The British case in the early twentieth century also demonstrates that fundamental shifts in the leader’s domestic institutional framework can result in a rapid erosion of the status of the lead currency, particularly when potential rival currencies exist. Hence, monetary leadership can only be sustained through the ongoing persuasion of market agents. A corollary of the argument is that international currency promotion is extraordinarily difficult and is an option available only to very few states. The rest of this chapter is organized around three main questions. First, what is the nature of international monetary leadership? This section is mainly concerned with definitions and in situating the argument in relation to the existing literature on leadership and hegemony. Second, what is the nature of monetary followership for both other states and private sector actors? Third, what are the limits to monetary leadership, and, as regards the theme of this volume, to the power that monetary leaders enjoy? A final section concludes. What Is Monetary Leadership? Monetary power has long been associated with the role of dominant or hegemonic countries in the international political economy.1 This idea has a longer heritage than so-called hegemonic stability theory, but it achieved its fullest expression in this theory from the mid-1970s. Charles Kindleberger himself, on which much of this literature draws, employs the term leadership rather than hegemony.2 He argues that international monetary leaders, such as pre-1914 Britain and the post-1945 United 52 Andrew Walter 1. See, for example, Robert...