May 05, 2007
The Forex Wall
I’ve hit it again. The Lounsbury and I have had a brief exchange about this some time ago, and I just discussed it with a Moroccan acquaintance. The guy’s an accountant. Morocco or Tunisia, to quote only those examples among many other Arab countries, impose trade restrictions when it comes to foreign currencies.
The argument I’m given in support for those restrictions is invariably the same: everyone will rush to buy foreign currencies, and the country will have a shortage of it. That such an argument comes from an accountant is puzzling. It totally ignores the fact that markets would automatically balance that demand. If some little buddy is ready to sell his house for a couple of euros, then he must be a moron of epic proportions. And if one’s worried about the resulting exchange rate, then there definitely are ways to control them through market mechanisms.
Why would small investors or entrepreneurs send their money there if they know it’s going to be trapped? No, more paperwork and more procedures to get a green light to move their capital freely is not going to help, they’re busy enough not to want to worry about such hassles. Big multinationals which can afford that kind of deadweight as an insignificant part of their costs may consider it, but small businesses and small investors won’t. Yet, it’s small businesses which move those economies.
So to send capital, one has to get some hell of a return, as a premium for that lack of liquidity. With many conditions in terms of strategy, quantity, timing, etc. This just disqualifies so many interesting projects.
Looking from the other side of the fence, it’s even uglier. A small business can’t practically open a commercial representation abroad. A moderately wealthy person can’t get his excess of capital abroad to invest it in profitable ventures and bring profits back home. Importers also endure higher barriers resulting in a higher loss for consumers.
Someone correct me if I’m wrong, I might be missing something obvious here, but so far, I only see lost opportunities. There isn’t a single advantage to this situation. And with the many young candidates to entrepreneurship who could test their luck abroad, many of whom were educated abroad and kept contacts there, or the increasing numbers of successful Arab businessmen and decision makers in the diaspora, the number of lost opportunities only increases.
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I suspect that the concept of the state giving up control in order to empower the individual is just too much of an ideological leap for your average vampire state enthusiast. Control(esp. for the state) is an end in itself as much as it is a means, economic growth be damned.
And I think the government would rather tread water than take any kind of risk. They would rather take 2 steps forward and 1 step back rather than take 10 steps forward and 5 steps back. They remember the exceptions more than the rule, like how during the East Asia financial crisis, the countries with the most open currency markets got raped the most by fleeing capital while countries like Malaysia locked everything down and came out much less damaged(at least in the short term). A dictator would rather continue the same poor status quo than end up like Suharto.
Posted by: Djuha at May 5, 2007 04:39 PM
Asia: while not all countries that tied their currency to the dollar were hit, all the countries that got hit had tied their currencies to the dollar. There's a lesson in there: let the market set the exchange rate. You'll be better off.
And I think it was tomscud who once posted something that I hadn't even thought of: elites in Third-World basket cases like an artificially high currency, since it makes their foreign-sourced goodies cheaper for them.
Posted by: pantom at May 5, 2007 08:10 PM
You should really read Panics, Manias and Crashes by Charles Kindelberger.
Posted by: Peter H at May 6, 2007 01:52 AM
That would have been me.
Posted by: The Lounsbury at May 6, 2007 03:09 PM
I haven't read Panics, Manias and Crashes but I take it from reviews and summaries found on the web that it deals with irrational speculative bubbles. That pretty much joins Djuha's argument, that they would rather not take 10 steps forward and 5 steps back. Though imo, inertia has more to do with it. Preventing free movement of capital in order to avoid forex related speculative bubbles makes as much sense as imposing communism as an answer to market excesses.
Now, for my more extended comments.
First, I think Djuha has it largely right with respect to risk aversion. Mind you I have these conversations with MENA central bankers I run into all the time about how their economy would in fact bloody well profit were they to loosen up, as well as make their currency more compeitive. But there is risk aversion, as well as the issue of over-valuation being a hidden subsidy to the consuming classes (not just the elites, but the fonctionariate who may be not that well paid, but due to their rare status as having on the books jobs, better able to access formal consumption credit.)
Posted by: The Lounsbury at May 8, 2007 02:16 PM