The Federal Reserve Is Causing Turmoil Abroad
By George Melloan
897 words
23 February 2011
The Wall Street Journal
J
A17
English
(Copyright (c) 2011, Dow Jones & Company, Inc.)
In accounts of the political unrest sweeping through the Middle East, one factor, inflation, deserves more attention. Nothing can be more demoralizing to people at the low end of the income scale -- where great masses in that region reside -- than increases in the cost of basic necessities like food and fuel. It brings them out into the streets to protest government policies, especially in places where mass protests are the only means available to shake the existing power structure.

The consumer-price index in Egypt rose to more than 18% annually in 2009 from 5% in 2006, a more normal year. In Iran, the rate went to 25% in 2009 from 13% in 2006. In both cases the rate subsided in 2010 but remained in double digits.

Egyptians were able to overthrow the dictatorial Hosni Mubarak. Their efforts to fashion a more responsive regime may or may not succeed. Iranians are taking far greater risks in tackling the vicious Revolutionary Guards to try to unseat the ruling ayatollahs.

Probably few of the protesters in the streets connect their economic travail to Washington. But central bankers do. They complain, most recently at last week's G-20 meeting in Paris, that the U.S. is exporting inflation.

China and India blame the U.S. Federal Reserve for their difficulties in maintaining stable prices. The International Monetary Fund and the United Nations, always responsive to the complaints of developing nations, are suggesting alternatives to the dollar as the pre-eminent international currency. The IMF managing director, Dominique Strauss-Kahn, has proposed replacement of the dollar with IMF special drawing rights, or SDRs, a unit of account fashioned from a basket of currencies that is made available to the foreign currency reserves of central banks.

About the only one failing to acknowledge a problem seems to be the man most responsible, Federal Reserve Chairman Ben Bernanke. In a recent question-and-answer session at the National Press Club in Washington, the chairman said it was "unfair" to accuse the Fed of exporting inflation. Other nations, he said, have the same tools the Fed has for controlling inflation.

Well, not quite. Consider, for example, that much of world trade, particularly in basic commodities like food grains and oil, is denominated in U.S. dollars. When the Fed floods the world with dollars, the dollar price of commodities goes up, and this affects market prices generally, particularly in poor countries that are heavily import-dependent. Export-dependent nations like China try to maintain exchange-rate stability by inflating their own currencies to buy up dollars.

Mr. Bernanke has made it clear that his policy is to inflate the money supply. His second round of quantitative easing -- the controversial QE2 policy to systematically purchase $600 billion in Treasury securities with newly created money -- serves that aim. But even for the U.S. it is uncertain that Mr. Bernanke can hold to his 2% inflation target. Oil is going up. Foodstuffs are going up. And when the Fed sneezes money, the weak economies of the world, and the poor masses who are highly vulnerable to price rises in the necessities of life, catch pneumonia.

The turmoil in Iran is reminiscent of another period when the Fed was on an inflationary binge, the late 1970s. The Iranian oil boom had brought many thousands of peasants out of the villages into the cash economy in population centers like Tehran. On top of the disorientation resulting from that change itself, Iranians were then victims of an outbreak of inflation and a sharp decline in the purchasing power of the rials in their pay envelopes. Confused and angry, they supported the clerical revolution that unseated the shah and has been a thorn in America's side ever since.

Today's Iranian revolt has similar causes and, if successful, could be the flip side of 1979, a nation again friendlier toward the U.S. But there is no guarantee of that, or that states now friendly, like Bahrain, will remain so after an Egyptian-style upheaval.

Indeed, it is unlikely that Americans themselves will escape the inflationary consequences of current Fed policy. Aside from the rise in oil and foodstuffs, higher prices of manufactured goods are in the offing. China's inflation rate is hovering at 5%. MKM Partners, a research and trading firm, last November reported that an internal study at Wal-Mart, a big importer from China, showed that the huge retail chain's prices are edging up at an annual rate of 4% a year. That recent trend showed up in last week's consumer-price index report.

The Fed is financing a vast and rising federal deficit, following a practice that has been a surefire prescription for domestic inflation from time immemorial. Meanwhile, its policies are stoking a rise in prices that is contributing to political unrest that in some cases might be beneficial but in others might turn out as badly as the overthrow of the shah in 1979. Does any of this suggest that there might be some urgency to bringing the Fed under closer scrutiny?

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Mr. Melloan, a former columnist and deputy editor of the Journal editorial page, is author of "The Great Money Binge: Spending Our Way to Socialism" (Simon & Schuster, 2009).