An unfortunate byproduct of the dollar’s unexpected surge has been the revival of a bogey that just won’t die: currency wars. The phrase gets thrown about during periods of dislocation in the foreign-exchange market and has the beauty of meaning whatever the person who utters it desires. Conflicts in the world of FX are usually difficult to win. They are even harder to spot.
The two words certainly attract attention. Once they force their way into discourse, they can be tricky to banish. More’s the pity because they obscure more than illuminate. There’s a strong case to be made that in the contemporary era that there are few true FX conflicts, much less military-style actions launched with the aim of gaining a competitive advantage for exports. The term is now being bandied around to describe a scenario where South Korea, Taiwan, Indonesia — and even China — are pushed into weakening their currencies to guard against the effects of a languishing yen. Never mind that Japan itself is very uncomfortable with its currency’s underperformance and working to limit the decline.
This is the problem with the martial analogies. They don’t stand up particularly well to scrutiny. More often than not, currency trends are a byproduct of something else. They reflect a sober view among investors of what underlying policy does to — or says about — an economy’s prospects. In this instance, the yawning gap in interest rates between the US and Japan is the primary culprit in the yen’s descent. Intervention and some hawkish noises from Tokyo have cushioned the blow a little. At its heart, this situation has little to do with exports.
To understand the term, and its flaws, you have to go back more than a decade. Brazilian Finance Minister Guido Mantega was wrestling with a pronounced rally in the real; the previous year it had climbed by almost a quarter against the greenback. He complained that this was the fault of the major industrial powers. They had been juicing their economies since the failure of Lehman Brothers Holdings Inc. through near-zero rates and quantitative easing. “We are experiencing a currency war,” Mantega told reporters in September 2010. “Devaluing currencies artificially is a global strategy.”
The soundbite suited Brazil's purposes. Borrowing costs were relatively high there, reflecting a desire to curb inflation. When rates were low in the US, by contrast, and QE was a staple of the Federal Reserve’s approach, the buck was naturally going to struggle. But while Mantega’s phrase was bound to go viral, was the US really seeking a depreciation, or was that a byproduct of trying to get inflation off the floor and nudge growth? Mantega’s remarks confused effect with intention. He, nonetheless, caused a sensation: Ministers the world over were pressed about their stance on the alleged conflagration. Meetings of Group of Seven officials were depicted as councils of war. It became quite ridiculous.
The catchphrase was bound to attract sympathy because disillusionment with the US after the subprime meltdown was great. The moniker was also applied to Japan in 2013 after a dramatic increase in stimulus. While the yen certainly dropped, the underlying cause was a huge expansion of QE. The core intent was to crank up inflation and break out of what the Bank of Japan’s then-chief Haruhiko Kuroda called a deflationary mindset.
Not that Kuroda opposed a weak yen — it suited his purpose — but this was more consequence rather than sole objective. The clamor for Japan to fix its economy and spur demand was significant in international circles. Similarly, how would it have been good for the world if the US had allowed deflation to take hold after the global financial crisis? The cries and accusations of timidity would have been deafening.
Which gets us to the current moment. The dollar’s strength rests in part on the prolonged US expansion — many economists predicted a recession by now — and expectations that Fed rate cuts will be delayed. Again, this begs the counterfactual question: What is the Fed supposed to do? Cut when inflation is proving just a bit too stubborn and the labor market is robust?
This re-pricing has people doing all sorts of things. Indonesia shocked investors with a rate hike last month, BOJ Governor Kazuo Ueda has been sounding more hawkish. There is even muttering about sizeable devaluation of the yuan. At the very least, it makes sense for Beijing to allow the currency to drift lower. The People’s Bank of China is widely expected to loosen monetary policy in coming months in response to anemic prices.
All too often, currencies respond to broad economic conditions. This isn’t to say wars don’t happen: In the late 1990s, Asia desperately scrambled to protect artificially high — often pegged or quasi-pegged — exchange rates. The point is that looking for some ulterior motive in the dollar’s bludgeoning other currencies into the ground just isn’t fruitful.
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