Wednesday, February 25, 2009

Japan's Taro Aso in Washington

The Washington Post interviewed Japanese Prime Minister Taro Aso on February 25, 2009.

Aso argued that U.S. businesses would not borrow money no matter how the Fed lowered interest rates. As such, he supported the stimulus bill passed by Congress because he believed the U.S. government needed to step in and spend more money to save the economy.

But he warned America to stay away from issuing more dollars in an effort to solve the country’s economic problems.

“As long as the [Federal Reserve’s] balance sheet is clean, as long as you are able to maintain confidence in the dollar, there’s no chance of the U.S. dollar going into a critical situation,” said Aso. “I’ll guarantee that.”

In other words, if you start printing too much money, we might start selling our dollars and your currency will crash.1

Well, guess what. The Fed would later start printing money like crazy, flooding overseas markets with money they didn’t need.

1 If America decided to issue more money, the Fed would create that money and use it to buy financial assets (typically bonds). Those assets would get placed on the Fed’s balance sheet. Presumably, at that point, the Fed’s balance sheet would no longer be “clean,” at least according to Aso. An important side effect of this money creation process is that some of the money – perhaps a lot of the money – would head overseas. That would lower the dollar and increase the likelihood of creating bubbles in overseas economies. To retaliate, other countries, such as Japan, might start selling their own dollar holdings which would destroy the value of the dollar and lead to financial Armageddon and no one wants that, right? Not surprisingly, Japan did not sell its dollar holdings even after the Fed started printing money like crazy.

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