Benign Neglect.

Benign neglect is one of those oxymorons, like Kenneth Galbraith's conventional wisdom, which is slipping into everyday vocabulary. Originally coined by Patrick Moynihan (I think) in the context of race relations, it has moved into economics to mean the polar opposite of "intense competition" particularly in the realm of national currencies. The late Susan Strange once referred to "the vulnerability of European exchange rates to U.S. policies -- and especially to American "indifference" -- what American's like to call `benign neglect.'" Secretary of the Treasury John Connally told the world that "the dollar is our currency, but it's your problem." That's neglect, and with an edge. Subsequently, Treasury secretaries George Shultz and James Baker relaxed and simmered down. This failed to last, however. When Paul Volcker raised interest rates in 1980 in his assault on inflation, capital flows pushed the dollar up to a point where notice had to be taken. At the Hotel Plaza in late 1985, it was agreed that multiple intervention would be ordered to push the dollar down again. But suffering overkill, the Louvre agreement was needed in February 1987 to halt the dollar's slide. By the 1990s, during Robert Rubin's tenure at Treasury, benign neglect returned.

A strong case for neglect can be made for a top currency, as Susan Strange called the dollar in the 1970s. Other currencies can be adjusted; the value of the leader is the reciprocal of the weighted average of the rest. The role of the leader is to promote steady monetary and fiscal policies and free trade, but to leave the exchange rate to the rest of the world. If currencies compete, moreover, intervention must not be carried out at cross purposes, like the French in 1926, the British in 1931, and the Americans in 1933.

The euro's entrance on January 1, 1999, introduced the possibility of currency competition. A new book, The Euro as Stabilizer in the International Economic System edited by Robert Mundell and Armand Clesse, gives an account of a December 1998 conference in Luxembourg which explored how the euro would get along with the dollar. In the first years following the 1992 Maastricht Treaty, analyses assumed countries outside the European Monetary Union would shift dollars into euros, thus leading to an appreciation of the euro and a depreciation of the dollar. It was thought competition between the two currencies could lead to Gresham's Law that bad money drives out good, as in the sterling-dollar experience, and greater exchange-rate volatility. Later on followed the notion that outside countries would borrow euros in a wider and deeper capital market, and sell them for other currencies, inducing depreciation of the euro. Next appeared the idea that foreign investors would buy securities for investment in euros, shifting the flow in long-term capital in parallel to that in reserves. The net is hard, even impossible to forecast.

But the discussion in Luxembourg did not fall to mention the pros and cons of benign neglect. Nobel laureate Mundell said, "Whatever the currency area formation, one thing is certain. The dollar-euro rate will become a matter of great concern to Europe, the United States and the rest of the world.... It would be a grave mistake to believe ... that the euro-dollar rate can be treated with `benign neglect.'" In partial contrast, Robert McCauley of the Bank for International Settlements put forward the notion of "balanced benign neglect." But he admitted the euro-dollar rate was a larger concern in Frankfurt than Washington because the dollar area -- including countries that use the dollar in currency boards or as licit or illicit means of payment -- was broader than the European Union, both in the present and the foreseeable future.

In fact, few if any people thought the euro would fall from its opening rate of one to $1.10 as it has. Discovering why will take historians some time. Meanwhile, Treasury Secretary Lawrence Summers seems to believe in a strong dollar that does not require worrying about, as in 1985. Benign neglect rides again.

Charles P. Kindleberger is Professor Emeritus at MIT and author of Comparative Political Economy: A Retrospective, MIT.