Early 2009 saw some interesting sparring between top political and economic officials in Washington and Beijing over the somewhat esoteric, yet vitally important issue of Chinese currency convertibility (or lack thereof).

The row began as U.S. Treasury Secretary Timothy Geithner accused the Chinese government in Congressional testimony of currency manipulation. That shot over the bow was quickly followed by statements by Chinese government officials of the need to diversify from the U.S. dollar as the international reserve currency of choice. (China is thought to hold roughly $1.3 trillion in USD-denominated U.S. government-backed debt, roughly 60% of its total reserves.) The Chinese also criticized the United States' credit quality erosion.

Political grandstanding aside (which has since calmed), there are some good reasons to think that China may at some point in the not too distant future move to a convertible (floating) currency regime, as outlined in a special report published by Asia-specialist firm Matthews International Capital Management. The report states:   More 

Jason Zweig of The Wall Street Journal quoted me saying that when the dollar weakened over the past 20 or 30 years, both U.S. and non-U.S. stocks rallied in dollar terms.

U.S. stocks probably rallied because U.S. companies with subsidiaries abroad could translate their sales denominated in yen and other currencies into a larger number of dollars given the exchange devaluation. Moreover, again due to the devaluation, U.S. exporters would be more competitive in foreign markets. Non-U.S. companies trying to export into the United States would be at a disadvantage, and therefore, U.S. companies would be able to book higher profits from fatter domestic margins.

I do not think there is anything controversial in what I just said because it is straight from any international trade textbook. 

Non-U.S. equities and bonds have good returns for U.S. investors when the dollar loses strength because their returns are denominated in other currencies and, therefore, become larger if the dollar gets weaker. Again, nothing controversial.

When I looked at the comments to the article by WSJ.com readers, however, I noticed that many were very concerned about the "debasing of the currency" and the fact that a weakening dollar shows that the United States is losing ground in the international context. I have some comments myselft about this.   More 

In recent months, the currency component of M1--currency circulating outside of banks--has taken off like a rocket. In fact, since August 2008, just before the financial crisis really erupted, circulating currency has risen 9% in those seven months alone. This is the fastest growth rate for any seven-month interval since World War II.   More