In a world of capital mobility, an important part of any solution to the Asian and Middle Eastern inflation problem must be a move by the countries of those regions towards greater exchange rate flexibility. Such a move would allow those countries to regain monetary policy independence from the U.S. and to set domestic interest rates at levels appropriate for their economies' fight against inflation.
Greater exchange rate flexibility in Asia and the Middle East would also be helpful in addressing the global payment imbalance problem and it would relieve the euro of having to bear the full burden of the dollar's adjustment. It is far from obvious that greater exchange rate flexibility in Asia and the Middle East would necessarily lead those countries to start selling dollars in a manner that would provoke a dollar crisis.
The countries of Asia and the Middle East would be making a grave policy mistake in persisting with quasi-fixed exchange rate policies and in waiting for the Fed to raise interest rates for their benefit. This would seem to be especially the case at a time when the U.S. is facing the real risk of a prolonged and nasty recession under the weight of its worst housing and credit market busts in the post-war period and of a major oil price shock on a scale of that in 1979.
Desmond Lachman is a resident fellow at AEI.