While there are many ways of thinking about the world economy, I find it helpful to think in terms of two superpowers.

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America is a nominal superpower, and American monetary policy has a disproportionate impact on the world’s nominal economy. China is a real superpower, and its fiscal policy has a disproportionate impact on the world’s real economy.

David Beckworth has written extensively on the US as a monetary superpower. But where does that come from? After all, the GDP of the EU is roughly comparable to that of the US.

The monetary dominance from the US comes from a variety of factors, but the most important is the fact that many countries have currencies that are at least loosely pegged to the dollar. Other factors include the high proportion of international loans that are denominated in dollars, the fact that much foreign trade is priced in dollars (even between two non-dollar economies), and the fact that most foreign reserves are in the form of dollar assets.

Because the US is a monetary superpower, we have a disproportionate effect on all sorts of nominal variables, all over the world. And that matters because many wages and prices are sticky.  When the global dollar economy is unstable, it makes the global real economy unstable as well.

China is at a stage of development that is extremely commodity intensive, as it builds up its capital stock. As a result, it tends to consume 40% to 50% of many key commodities, such as cement, steel, copper, etc. Coal is also very important in China.

Chinese fiscal policy (broadly defined to include government credit policies that affect state and local governments and state-owned banks) has a big impact on countries such as Brazil and Australia, which export commodities, as well as Germany, which exports the sort of capital goods that China needs to develop. The Chinese fiscal stimulus of 2009 (as well as monetary stimulus) helped to push the global economy out of recession.

American monetary policy can be a problem for several reasons. First, we might have a policy that is inappropriate for the US economy, causing unstable NGDP (as in 2008-09). That shock impacts the entire world. Second, we might have a policy that is appropriate for the US, but is associated with a dramatic real appreciation or depreciation in the US dollar exchange rate.

For example, the tech shock of the late 1990s appreciated the real value of the US dollar in forex markets, and this overvalued the currencies of many dollar-oriented economies, from Southeast Asia to South America to Russia. Many countries would be better off having a looser link to the dollar, but that may be hard to do if they rely on dollar-denominated debt.

Chinese business cycles cause instability in commodity-oriented economies, and also places like Germany, which exports lots of capital goods to China. The US is less affected.

I’m not sure this post has anything new, except perhaps the nominal superpower/real superpower framing.

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