Ellen writes: > Efficient market types try desperately to put a good face > on foreign exchange markets by claiming that everything > will make sense in the long run. All real-world evidence > contradicts this. I find it most helpful to regard the . > exchange rate as a purely speculative variable --hanging > by it's bootstraps. Sometimes speculation is stabilizing, > moving to correct obvious problems of over- and > undervaluation. > This is what efficient market boosters would have us > believe. Korea, Indonesia, Mexico, et al, were victims of > nothing more than way-overdue market "corrections" to > long-run equilibrium. > Then again, sometimes speculation is distabilizing. I > would say the won, rupiah, baht, ruble, peso all fell > victim to destabilizing speculators. This is a false dichotomy. You can argue that there are real forces acting on exchange rates without adopting an equilibrium model or asserting that markets are efficient. (Jim D makes a similar point.) In the case of Brazil, for example, you can simply point out that substantial real exchange rate (RER) appreciation has hurt exporters and encouraged imports, and that the country�s ability to get foreign credit to plug this gap is limited. The fact of RER appreciation and its effects on trade do not rely on a notion of equilibrium or market efficiency. I would strongly agree with Ellen that equilibrium models, especially of the PPP variety, are misleading. But this is not the same thing as saying that the thing is "purely" speculative. > The > Clinton administration is, just now, arranging a tax- > financed, I think taxpayers would only be affected if the loan was not repaid. But others may know the specifics better. > $30b pay-off to keep destabilizing speculators > from bringing down the real. How much easier (and > cheaper) to just control currency trading. This is a larger debate that we may not want to rehearse, but again on my dichotomy point: the fact that speculators are the proximate cause of a collapse does not mean they are fundamentally responsible. Any time you have large RER appreciation with a fixed exchange rate, and the central bank has limited foreign reserves, you become easy pickings for speculators. But this is like walking out of your house and leaving the front door wide open � sooner or later you�ll get robbed. So you have to start by asking what policies created this extreme vulnerability. Further, the majority of capital flight � or the looting of the central bank�s foreign reserves if you like stronger language � is in most cases carried out by domestic wealth- holders, not by people like Soros. Discouraging the activities of the Soroses, even if you could do it, would have little effect on this. Best, Colin
