FX Supplement: Currency Wars: Changing Tactics


By Gordon Platt

Battle Tactics Change With Global Slowdown.


Chandler, Brown Brothers Harriman: The lingering US and European crises are casting a pall over global capital markets

When the global economy seemed securely on track for a steady expansion last year and early this year, central banks intervened massively in the foreign exchange market to limit appreciation of their currencies to maintain a competitive edge in global markets for their countries’ exporters. The nature of these so-called “currency wars” has changed dramatically as a result of worries about slowing growth globally in the wake of the US and European debt crises. Now many central banks are intervening to prop up their currencies amid a rush to the dollar.

Battle tactics may have changed, but the currency wars have not ended. Japan has increased its currency “war chest” to more than $500 billion to keep the market wary of potential intervention to sell the yen, says Masafumi Yamamoto, chief foreign exchange strategist at Barclays Capital in Tokyo. The Bank of Japan’s total intervention during 2003 and 2004 was around that amount.

Japanese finance minister Jun Azumi said the government would increase the limit of financing bill issuance for intervention to $2.2 trillion. The government decides on foreign exchange intervention, and the Bank of Japan executes transactions on behalf of the powerful ministry of finance. Therefore, the government needs yen funding to sell yen in the foreign exchange market.

“The main reason for lifting the limit, in our view, is to show that Japan has sufficient room for yen-selling intervention, if needed,” Yamamoto says. This doesn’t mean that the Japanese government will be stepping in soon to sell the yen, but it will do so when large yen appreciation causes significant deterioration in the country’s economic outlook and share prices, he says.

Amid a huge sell-off in emerging market assets in late September, central banks across the developing countries—including Poland, Brazil, Russia, India, South Korea and Indonesia—were forced to intervene to keep their currencies from plummeting. Weakening currencies threatened to worsen inflation problems at a time when easier monetary policies seemed to be called for.


“The lingering crisis in the US and Europe continues to cast a pall over global capital markets,” says Marc Chandler, global head of currency strategy at Brown Brothers Harriman in New York. “Policymakers are responding with new monetary and fiscal measures.”

Prudential macroeconomic policies in Brazil, for example, have been backed up with the beginning of an easing cycle, which will likely continue to weigh on the real, Chandler says. Turkey has also begun easing monetary policy, and Hungary is likely to begin an easing cycle for monetary policy in the coming months, he says.

The deterioration of confidence has hit emerging markets and, to some extent, G10 commodity currencies hard. It is difficult to see this trend changing relative to the dollar until the European crisis stabilizes, according to a report by Barclays Capital. In the long run, however, “factors that led to the bout of accusation and counter-accusation in 2010 about currencies being effectively devalued for domestic purposes at the cost of other economies may return once conditions stabilize,” the report says. Monetary policy is likely to loosen further in the major economies, and some central banks are running out of options for further easing except via exchange-rate depreciation, it adds.

Economic problems in developed economies remain acute, adding incentive to move liquidity flows from developed economies to faster-growing developing economies, according to the Barclays report. “The global growth slowdown and shifts in portfolio and capital flows suggest to us that maintaining export competitiveness will be an overriding near-term objective,” it says.

However, the case for central banks to actively devalue their currencies is unimpressive. Slowing but still robust Asian GDP and export growth and above-historical-average inflation probably work against policymakers going down the politically sensitive road of actively pushing their currencies weaker, the report notes.


All other things being equal, Asian central banks in the medium term should be more comfortable allowing some currency appreciation if the Chinese renminbi continues to trend higher. The benefits to China of an appreciating currency include a disinflationary impetus, domestic growth rebalancing, slower foreign exchange reserve accumulation and a buildup of political goodwill with the G20 countries, Barclays Capital says.

As Global Finance went to press, the US Senate was preparing to vote on legislation designed to punish China for manipulating its currency. A key provision would instruct the Commerce Department to treat undervalued currencies as a subsidy under US trade law, enabling companies to seek countervailing duties against imports. The Obama administration said it was reviewing the bill. “We share the goal of achieving further appreciation of China’s currency,” White House spokesman Jay Carney said.

“Increasing the hunt for safety and liquidity are reports that the IMF is looking to step up its lending capacity”

Jean-Pierre Doré, Western Union Business Solutions

The Economic Policy Institute estimated in a recent report that the US has lost 2.8 million jobs from 2001 to 2010 because of the trade deficit with China. President Barack Obama is urging a $447 billion proposal to stimulate job creation. Backers of the China currency bill say it could create more than 1 million jobs without massive government spending.

The value of the renminbi has risen about 3% against the dollar so far this year, and almost 30% since 2005, but some US lawmakers say it remains undervalued by 25% to 40%. Opponents of the bill say it would create a trade war.

Meanwhile, the International Monetary Fund and World Bank have both argued that the global economy is in a danger zone. “Increasing the hunt for safety and liquidity are reports that the IMF is looking to step up its lending capacity, as it fears that it may have to increase its ability to help countries with worsening credit problems,” says Jean-Pierre Doré, corporate foreign exchange dealer at Western Union Business Solutions in Edmonton, Canada. The IMF is seeking to double its lending facilities to $1.3 trillion and make permanent an emergency lending facility put in place in 2008.

The cost of insuring Chinese bonds against default is rising and is about double the cost to insure the debt of Germany, a country currently in the grips of the eurozone crisis and facing the prospect of bailing out its neighbors, Doré says. China’s latest purchasing managers’ index fell below the 50% level. “Further, there are downward projections to China’s GDP, with expectations of 7.7% growth for 2012, well below previous projections of 8.3%, as its exports to developed markets decline and inflationary pressures ease,” Doré says.

In another battle in the currency wars, the Swiss National Bank set a cap on its soaring exchange rate in September, announcing that it was prepared to buy foreign currency in unlimited quantities to keep the euro above 1.20 Swiss francs. “The current massive overvaluation of the Swiss franc poses an acute threat to the Swiss economy and carries the risk of a deflationary development,” the SNB said in a statement.

The risk is that countries will continue to resort to unilateral actions to combat the transmission of global stresses into domestic economies rather than take a coordinated global approach to tackling the crisis, according to analysts at Brown Brothers Harriman. “Thus, we expect market stress to remain elevated amid the recent sharp deterioration in sentiment,” they said. The currency wars are far from over.



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