The world is fast approaching an economic collapse of proportions never before seen. The root cause is a public mentality that imagines governments and central banks are run by the Justice League and can save us from any catastrophe.

Consider the current case of Japan. A tsunami has caused immense damage to economic resources throughout the country as well as creating an escalating nuclear crisis. And the general public can only think of one possible solution: the Bank of Japan must (1) lower interest rates and prevent an economic contraction and (2) maintain a competitive edge in international export markets by debasing the currency. These are Keynesian ideas through and through.

When central bankers interfere with currencies they harm not just the economic interests of their own country but also create global imbalances. The world’s most important currency is, at least for the foreseeable future, the US dollar. The head of America's central bank is Ben Bernanke. Mr. Bernanke has been criticizing China for its currency manipulation at the same time as he has been manipulating the value of US currency by printing trillions of dollars.

The US bond market has been rallying for 30 years. The most important short term interest rate is set at 0-0.25%. Long term interest rates are at a record low. This is clearly not the configuration of interest rates that would be set by a free market in an economy that is still in the midst of a crisis. There are several factors which are maintaining interest rates at such low levels and none of them are the product of capitalism.

China has been criticized for its manipulation of the yuan. The belief of the economic establishment is that a weak currency is advantageous to an economy. Although this is a view held by many it is completely wrong, and as Americans are about to find out it is also very dangerous. 

It seems that most "economists" are impervious to economic principles. For this reason, they continue to encourage China to remove the currency peg that is propping up the US economy. When this happens the living standards of Americans will fall dramatically. If Australians want to protect themselves from following in America’s footsteps we must understand some basic concepts.

The perceived trade-off between export growth and currency strength is as widely held as was that of inflation and unemployment. The lackluster performance of Zimbabwean export industries in recent years should serve - as the stagflation of the 1970’s did - as one of many real world demonstrations that no such trade-off exists. Unfortunately, the Swiss National Bank has begun manipulating their currency in accordance with the policy prescriptions implied by this economic fallacy. It is important that Australians understand that ‘competitive devaluation’ is among the least economic behaviours imaginable.

The argument in favour of currency devaluation runs as follows. A strong currency drives manufacturers out of business due to a decline in both domestic and international demand resulting from the increased affordability of international markets relative to domestic markets. Therefore, the central bank should intervene to diminish the value of the currency. In the first place, this argument focuses only on immediate and short-run effects. And for that matter, it focuses on only some of the immediate and short-run effects. It ignores, for example, the fact that the cost of imported factors of production are immediately reduced. This invariably increases the international competitiveness of manufacturing firms.