This is especially true in light of the the European Central Bank's mandate to focus on price stability, which implies the absence of any explicit policy towards the exchange rate. The dollar and euro will provide the bulk of global finance, and large fluctuations between them will be highly disruptive for the rest of the world. So the absence of an agreed framework to manage currency relationships could be costly on both sides of the Atlantic. Gerhard Schroder, chancellor, and Oskar Lafontaine, finance minister, are surely correct that both rigidly fixed and freely flexible exchange rates have been tried and found wanting. Fixed rates, unless carried to the extreme of monetary union, as in Europe, or a currency board, as in Argentina or Hong Kong, have proved too prone to degenerate into costly over- and undervaluations.
Flexible rates tend to overshoot wildly and generate equally disruptive misalignments.
For the G7 this goal can best be pursued by maintaining substantial flexibility but modifying the method by which it is managed. For the past decade, the G7 has intervened periodically on an ad hoc basis without prior announcement. However, the interventions have always come long after misalignments have set in and severe economic damage has resulted. The absence of official guidance has left, indeed led, the markets to drive rates far from their long-term equilibrium levels. Any long-term disequilibria would be avoided by adjusting the ranges by very small amounts, which would be necessary to offset inflation differentials among the participants.