April 10, 2018 Reading Time: 2 minutes

It is difficult enough under normal economic conditions for policy makers to efficiently manage the money supply. To add to the difficulty, policy makers now need to make their decisions in the context of a potential trade war. The many unintended consequences of a trade war are very hard, if not impossible, to predict.

A particular challenge for policy makers is that monetary policy and fiscal policy — and a trade war can be thought of as fiscal policy — can either boost or offset each other, depending on the monetary regime followed by a central bank, as discussed on this blog (here, here, and here).

In the case of a fixed exchange rate, an expansion (or contraction) of fiscal policy needs to be accommodated by monetary policy. As long as there is free capital mobility, a central bank cannot have both a fixed exchange rate and policy autonomy. Even if the exchange rate is free to float, a fiscal policy that has a significant effect on the exchange rate may trigger a monetary policy reaction intended to avoid too much appreciation or depreciation.

By changing the context in which monetary policy is decided, a trade war increases the complexity of monetary policy. Central bankers cannot know for sure whether their policies are going to be magnified or offset by domestic fiscal policy. Nor can they know how foreign countries will react to the domestic trade initiative. What will foreigners’ fiscal policy be? What will foreign central banks’ reactions be?

For some years now, the United States has turned its back on economic rationality. A trade war would not only make the United States less productive. It would also make monetary policy more difficult.

Nicolás Cachanosky

Dr. Cachanosky is Associate Professor of Economics and Director of the Center for Free Enterprise at The University of Texas at El Paso Woody L. Hunt College of Business. He is also Fellow of the UCEMA Friedman-Hayek Center for the Study of a Free Society. He served as President of the Association of Private Enterprise Education (APEE, 2021-2022) and in the Board of Directors at the Mont Pelerin Society (MPS, 2018-2022).

He earned a Licentiate in Economics from the Pontificia Universidad Católica Argentina, a M.A. in Economics and Political Sciences from the Escuela Superior de Economía y Administración de Empresas (ESEADE), and his Ph.D. in Economics from Suffolk University, Boston, MA.

Dr. Cachanosky is author of Reflexiones Sobre la Economía Argentina (Instituto Acton Argentina, 2017), Monetary Equilibrium and Nominal Income Targeting (Routledge, 2019), and co-author of Austrian Capital Theory: A Modern Survey of the Essentials (Cambridge University Press, 2019), Capital and Finance: Theory and History (Routledge, 2020), and Dolarización: Una Solución para la Argentina (Editorial Claridad, 2022).

Dr. Cachanosky’s research has been published in outlets such as Journal of Economic Behavior & Organization, Public Choice, Journal of Institutional Economics, Quarterly Review of Economics and Finance, and Journal of the History of Economic Thought among other outlets.

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