Last December, when the Mexican

central bank ran out of money to support the price of the peso on

foreign-exchange markets, the currencylost half its value rapidly. Since January,the dollar has been sliding less precipi-tously but inexorably down in relationto the yen and the mark. The detailedmechanisms behind the two declinesare diÝerent, economists say, but to-gether they help delineatethe forces that drive curren-cy trading.

In the long run, says JeÝ-rey A. Frankel of the Institutefor International Economics,the relative values of dollars,marks, yen, rubles, pesos,pounds or forints depend onPPPÑÒpurchasing power par-ityÓ: prices rise or fall so thata dollarÕs worth of marks willbuy about the same amountof goods in Germany that abuck buys in the U.S. Thereare a lot of problems withmeasuring the cost of a rep-resentative sample of goods

in each country, and you need between100 and 200 years of data to see theeÝect properly, Frankel says, but PPP isstill the touchstone economists use.

For somewhat shorter periods, per-haps about 10 years, diÝering rates ofinßation govern the movement of ex-change rates, says Andres Velasco ofHarvard University. If one countryÕs pric-es rise by 5 percent a year, and those of

another by 15, the Þrst countryÕs cur-rency should appreciate by 10 percenta year (the diÝerence) against the sec-ond. DiÝerences in interest rates amongcountries will modify this equationsomewhat: when the U.S. Treasury waspaying high rates in the early 1980s, forexample, everyone bought dollars be-cause their net return was still high.

None of that, however, seems to makemuch diÝerence in the day-to-day op-eration of foreign-exchange markets.Although many analysts blamed thestart of the dollarÕs recent decline oninternational worries about the deÞcit,it is not as if everyone suddenly wokeup in early 1995 and realized that $5trillion of debt was a problem. And, as

Velasco notes, the value of adollar or a mark to a traderis what the next trader iswilling to pay for it. Beingright about the Òfundamen-talÓ value of a currency is oflittle use if no one else iswilling to buy or sell at thatprice.

Indeed, among the playerswho have learned this ex-pensive lesson most oftenare central banks, which of-ten intervene to control theprice of their nationÕs cur-rency. In Mexico the centralbank maintained the priceof the peso within a narrow

36 SCIENTIFIC AMERICAN June 1995

THE ANALYTICAL ECONOMIST

Yesterday the Peso, Tomorrow the Dollar?

PSYCHOLOGICAL CALCULATIONS may play as vital a role asÞnancial ones in Mexican and other currency exchanges.

For a ßeeting moment in 1992,there was something close to aninternational consensus that hu-

mankindÕs ravaging of the earthÕs faunaand ßora, together with the threat ofglobal warming, justiÞed better stew-ardship of the planet. In Rio de Janeirodozens of nations signed conventionson climatic change and biodiversity andagreed to a lofty set of principles knownas Agenda 21.

That was then. Fast-forward to 1995.Just as St. Augustine prayed for chasti-tyÑÒbut not yet!ÓÑparties at the climateconvention meeting in Berlin in Aprilexpressed an earnest desire do some-thing about releases of greenhouse gas-es, chießy carbon dioxideÑbut not yet.Only two or three developed nationshave any real chance of keeping theiremissions in 2000 to the levels of a de-cade earlier, the target vaguely endorsedat the Earth Summit. Data already showthat the U.S. and Europe will probablygo 6 percent over that goal.

Conßicting interests in Berlin ensured

that the best that could be achieved wasan agreement to talk soon. Oil-produc-ing nations blocked agreement on pro-cedures for voting. The Global ClimateCoalition, an organization supportedby fossil-fuel-burning industries, talkedup the uncertainty of global-warmingpredictions. Poor countries were unwill-ing to accept limits that might imperiltheir economic growth; rich countrieswere unwilling to bear the burden ofacting alone. One of the few successeswas the acceptance of Òjoint implemen-tation,Ó which will allow wealthy na-tions to exceed targets if they supportprojects to reduce production of green-house gases in poorer countries.

Maurice F. Strong, the chairman ofOntario Hydro and a prominent big-business supporter of sustainable de-velopment, admitted during the Berlinmeeting that Òthere is no question thatthere has been a recession of politicalwillÓ since Rio. Total governmental de-velopment assistance decreased by 7.2percent between 1992 and 1993.

The biodiversity convention, like theclimate convention, is hobbled by a lackof consensus on voting procedures. TheWashington, D.C.Ðbased Global Envi-ronment FacilityÑa fund that was des-ignated as the interim source of Þnancefor projects under the biodiversity andclimate change conventionsÑhas only$2 billion to last until 1997. Other Agen-da 21 goals, including negotiations toprotect forests and plans to stabilizepopulation, remain elusive.

Sustainable development, the pithymaxim that was on everyoneÕs lips atRio, is still, well, a pithy maxim. For allthe talk, evidence of major decisionspromoting sustainability is hard to Þnd.The United NationsÕs Commission onSustainable Development has producedÒmore words and wind than action,Óaccording to Gordon Shepherd of theInternational Fund for Wildlife, head-quartered in Switzerland.

Nevertheless, the spell of lethargycould end soon. Global surface air tem-peratures are up: 1994 tied for the Þfthwarmest year in more than 100 years.If the unusual warmth of the 1980s re-turns, political temperatures mightstart to rise, too. ÑTim Beardsley

Rio ReduxSurprise! Promises of the Earth Summit are still unmet

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Copyright 1995 Scientific American, Inc.