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Bloomberg Brief Currency Wars

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Exclusive supplement published by Bloomberg Brief Economics

Exclusive supplement published by Bloomberg Brief Economics

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  • 1. Economics Currency Wars MARCH 11, 2013 Brazilian Finance Minister Guido Mantega has accused governments of engaging in a currency war andBundesbank President Jens Weidmann warned against politicizing the value of the yen. In the following pages, we explore what’s really going on.inside:Barry Eichengreen calls for more “currency wars” to bolster growthSanjay Mathur of RBS sees political posturing, not open warfareDavid Powell on what constitutes a competitive devaluationMichael McDonough on currency reserves accumulationJoseph Brusuelas on the history of currency warsNiraj Shah on global capital controls
  • 2. 03.11.13 www.bloombergbriefs.com Bloomberg Brief | Economics 2overview david powell, Bloomberg EconomistCurrency War Discussion Should Focus on Reserve Accumulation, Fair Value As they struggle to boost economic percent, the move would seem to be justi- exchange rate can be used as a comple-growth, some policy makers have focused fied by fundamentals. ment to a PPP model. Academic studieson the value of their currencies, with fiscal The most often-used tools for currency have shown most deviations from theand monetary policies having already been valuation are purchasing-power-parity level implied by PPP should be removedpushed close to their limits. This focus has models. They calculate equilibrium over the course of 10 years. That averagesparked talk of a return to the competi- exchange rates, based on the theory value should act as an anchor.tive devaluations that ended in economic that the long-term exchange rate is de- That second metric appears to confirmdisaster during the inter-war period. termined by the ratio of prices between the undervaluation of the pound. GBP/ Countries that intervene in the foreign- two countries. A higher (lower) level CHF is 27.1 percent below its 10-yearexchange markets to depress the value of inflation in one country relative to moving average. GBP/NOK is 19.4 per-of their currencies may be most vulner- another will lead to a weaker (stronger) cent below that figure; GBP/SEK is 21.8able to such accusations. That group currency. Most economists agree over- percent below that figure; GBP/CAD isincludes nations with fixed exchange or undervaluations of more than 20 20.5 percent below that figure; GBP/AUDrates or “hard pegs” and those with “dirty percent are unsustainable. is 30.1 percent below that figure; GBP/floats” or “soft pegs” . NZD is 26.8 percent below that figure. Intervention results in the accumulation Real effective exchange rates can alsoof foreign-exchange reserves. They can be used as a valuation metric. They are ‘‘signal an undervalued currency. trade-weighted measures of a currency The foreign-exchange reserves monitor adjusted for inflation. They tend to reverton page 7 suggests Asian countries are to a long-term mean, such as the 10-yearmost guilty of this practice. They held $6.7 moving average. Deviations from thattrillion in currency reserves at the end of average are considered by economists tothe most recent reporting period, equal to represent over- or undervaluation.about 30 percent of GDP. China accumu-lated the most foreign-exchange reserves Policy makers’ focus Switzerland may be able to argue that its intervention is justified because capitalwithin Asia. Their holdings totaled $3.3 on boosting growth has flows have caused its currency to veer sig-trillion. That represents about 30 percent nificantly from its “fundamental value” Its .of Chinese GDP. sparked talk of a return to real effective exchange rate is still about 6 It indicates Switzerland has accumulatedthe highest level of foreign-exchange the competitive devalua- percent above its 10-year moving average. The PPP model and the 10-year movingreserves among the European countries. tions that ended in eco- average support that conclusion. TheyThey stand at $460 billion. That equals show EUR/CHF is undervalued by 10.7about 73.9 percent of Swiss GDP. nomic disaster during the percent and 16.2 percent, respectively. A country that refrains from interventioncan still be accused of trying to unfairly inter-war period. The Peterson Institute for International Economics has produced its own valu-control the value of its currency. Thetwo primary instruments of influencinga currency apart from direct intervention ‘‘ ation metric called the fundamental ef- fective exchange rate. It is the exchange rate between a foreign currency and theare monetary policy and capital controls, U.S. dollar that is expected to generatethough government officials can argue the current account deficit or surplus thattheir policies have been prescribed in matches a country’s underlying capitalan attempt to influence other variables, flows. (For more details, see: Cline, Wil-such as inflation, in the case of monetary liam R. & Williamson, John. Estimatespolicy, or to eliminate speculation, in the The pound is extremely undervalued of Fundamental Equilibrium Exchangecase of capital controls. according to the PPP calculations of the Rates, May 2012. Peterson Institute for Discussions of those attempts mostly Bloomberg Brief. It is 22 percent below International Economics, May 2012.)focus on the distance of a currency from that equilibrium level versus the euro; The authors found Singapore has theits “fair value” If a currency were close to . 26.6 percent below that figure versus the most undervalued exchange rate in theits fair value and to decline by 30 percent, Swiss franc; 20.7 percent below versus world. They estimate the Singapore dollarthe move would likely be viewed by policy the Norwegian krone; 35.8 percent below is 28.5 percent below its fair value versusmakers as fundamentally unjustified. By versus the Australian dollar; 34.9 percent the U.S. dollar.contrast, if a currency were 30 percent below versus the New Zealand dollar. The following pages should help ourabove its fair value and to decline by 30 A 10-year moving average of an readers navigate these issues.  1 2 3 4 5 6 7 8 9 10 
  • 3. 03.11.13 www.bloombergbriefs.com Bloomberg Brief | Economics 3japanese policy sanjay mathur of RBSYen Weakness, Currency Wars Signal Political Posturing, Not Economic Reality Japan’s new leaders have increased The latter has also been losing market That said, capital controls in Asia can-pressure on the central bank to loosen share in global exports, even prior to the not be ruled out. In the short term, suchmonetary policy to such an extent it has financial crisis, when the value of the yen controls could be effective, both becausesparked concern about global competitive was more competitive. During that period, of a genuine slowdown in currency flowsdevaluations, or currency wars. I believe exports did not rise proportionately for all and because of the concern they bring tothose concerns are steeped in political non-Japan Asia economies, though that financial markets. The recent weaknessposturing rather than economic reality and can be attributed to a continuing loss of in the Korean won is an example of thisany managed depreciations will only be competitiveness against China. psychosis. The Thai baht and Philippineeffective in the short term. peso may also feel the pressure. The global reaction to the Bank of In the long term, however, capital con-Japan’s decision to fight deflation by trols are unlikely to reverse medium-term ‘‘adopting a 2 percent inflation target and upward pressures on currencies. That isshifting to “open-ended” asset buying has because the dominant source of appre-been loud and clear. Policy makers from ciation pressure on most currencies hasSouth Korea to Germany and Brazil have been the current-account surplus and notviewed the depreciation as a competi- Japan’s moves have per- debt-portfolio capital, the principal targettive devaluation. The yen has dropped 17 of capital controls. While current-accountpercent against the dollar since November haps rattled central banks surpluses have fallen in most economies,2012, and concern about a currency warbetween central banks has risen sharply. in Asia more acutely they remain the largest component of the balance of payments. Thailand is an Japan’s moves have perhaps rattled cen- because they follow the exception in the probable set of countriestral banks in Asia more acutely because that could impose controls, but eventhey follow the expansion of the balance expansion of the balance so, its balance of payments has beensheets of the Federal Reserve and theEuropean Central Bank over the past two sheets of the Fed and the bolstered by foreign direct investment, and that is not the target of capital controls.years. Based on recent announcements,the expansion of the BOJ’s balance sheet ECB over the past two ‘‘ Outside Asia, the consumption-driven U.S. economy is unlikely to feel any threatin fact looks larger than that of the Fed years. from Japan’s actions. It may make Japa-or the ECB. In response, the Philippines nese imports less expensive and in turnand Thailand have threatened to introduce help lift consumption in the U.S. economy.their own capital controls. Europe is different — it could benefit Would capital controls or currency de- from a weaker euro. Domestic demand isvaluations by other central banks actually weak because of fiscal austerity, so thehelp a country’s competitiveness in the region’s reliance on exports is greater.long term? Looking behind the headlines That makes a competitive euro important.and the political maneuvering to the eco- Finally, regional production chains have European policy makers will doubtlessnomic reality, the answer is no. changed over the last decade. Several oppose Japanese monetary policy, though First, currencies in non-Japan Asia economies have established regional they are unlikely to take further action asremain competitive against the yen. The production networks by specializing in long as currency traders, rather than theBloomberg-JPMorgan Asia Currency intermediate products. According to esti- BOJ, dictate the strength of the yen. If thatIndex shows the yen is still relatively mates by the IMF, the share of total Asian changes, it could open up the possibilitystrong versus other Asian currencies. It exports that were intra-regional rose to 55 of tariffs on Japanese imports into thewas weaker in the run-up to the global percent from 45 percent between 2000 euro area or other punitive measures.financial crisis, and for much of the time and 2009. Of that increase, intermediate It is one thing for developing countriessince. Exports from non-Japan Asia have exports accounted for about 70 percent. to engage in currency wars, quite anotherbeen weak, though that is because global That shows depreciation of a single cur- when the developed world does it. Thatdemand has been weak, rather than be- rency does not necessarily raise competi- sets a bad precedent and creates the po-cause of encroachment by Japan. tiveness; the higher import costs of inter- tential for tit-for-tat actions. From crisis, we The Asian region has also made sub- mediate products can raise manufacturing could move to protectionism. In the longstantial productivity gains against Japan. costs. The IMF also concluded that gains term, that could destabilize an alreadyFor the most part, since 2011, manufac- from regional devaluation can be more precarious economic recovery.turing productivity growth in non-Japan beneficial than those from the devaluation Sanjay Mathur is head of research and strategy atAsia has outperformed that of Japan. of individual currencies. Royal Bank of Scotland in Singapore.  1 2 3 4 5 6 7 8 9 10 
  • 4. 03.11.13 www.bloombergbriefs.com Bloomberg Brief | Economics 4Currency Valuations david powell, Bloomberg EconomistCurrency Current PPP Valuation 10-Year MA Valuation Purchasing-power-parity models calculate equilibrium exchange rates, based on theEUR/USD 1.2995 1.2484 4.1% 1.3167 -1.3% theory that the long-term exchange rate is USD/JPY 93.93 82.62 13.7% 100.76 -6.8% determined by the ratio of prices betweenGBP/USD 1.4997 1.7200 -12.8% 1.7281 -13.2% two countries. A higher (lower) level ofUSD/CHF 0.9483 1.1297 -16.1% 1.124 -15.6% inflation in one country relative to another will lead to a weaker (stronger) currency.USD/NOK 5.7155 6.2825 -9.0% 6.1680 -7.3%USD/SEK 6.4082 5.8043 10.4% 7.1348 -10.2% These PPP calculations use June 1991USD/CAD 1.0313 0.9809 5.1% 1.1253 -8.4% as a base period because global imbal-AUD/USD 1.0244 0.7545 35.8% 0.8461 21.1% ances (the sum of the absolute value of the current-account deficits and sur-NZD/USD 0.8274 0.6176 34.0% 0.7064 17.1% pluses, as percentages of gross domestic EUR/JPY 122.06 100.96 20.9% 132.17 -7.6% product, of Australia, Canada, Germany,EUR/GBP 0.8665 0.7105 22.0% 0.7680 12.8% Japan, Norway, Switzerland, the U.K. andEUR/CHF 1.2322 1.3805 -10.7% 1.47024 -16.2% the U.S.) were smaller at that time thanEUR/NOK 7.4275 7.6776 -3.3% 8.0709 -8.0% during any other quarter since data for those countries has been available. ThatEUR/SEK 8.3274 7.6152 9.4% 9.3453 -10.9% suggests exchange rates in the G-10 wereEUR/CAD 1.3402 1.1987 11.8% 1.4723 -9.0% closest to their equilibrium values in theEUR/AUD 1.2686 1.6197 -21.7% 1.58167 -19.8% second quarter of 1991.EUR/NZD 1.5706 1.9789 -20.6% 1.8798 -16.4% The Swedish krona is an exception. These GBP/JPY 140.86 142.10 -0.9% 175.79 -19.9% PPP calculations for the currency useGBP/CHF 1.4221 1.9367 -26.6% 1.9519 -27.1% January 1993 as a base period to excludeGBP/NOK 8.571 10.8060 -20.7% 10.6403 -19.4% the volatility created by the Swedish bank-GBP/SEK 9.61 9.2521 3.9% 12.2907 -21.8% ing crisis of the early 1990s.GBP/CAD 1.5466 1.6872 -8.3% 1.9459 -20.5% The problem of choosing the correct baseGBP/AUD 1.4639 2.2798 -35.8% 2.095 -30.1% period can be circumvented by using aGBP/NZD 1.8125 2.7852 -34.9% 2.4746 -26.8% 10-year moving average of the exchangeCHF/NOK 6.028 5.5612 8.4% 5.537 8.9% rate as an equilibrium rate. Academic CHF/SEK 6.7582 5.4896 23.1% 6.4147 5.4% studies have shown that most deviations from the level implied by PPP should beNOK/SEK 1.1212 0.9166 22.3% 1.1582 -3.2% removed over the course of 10 years. TheCAD/CHF 0.9195 1.1517 -20.2% 0.9993 -8.0% average value during this period should CHF/JPY 99.05 73.13 35.4% 89.68 10.5% act as an anchor.NOK/CAD 0.1804 0.1562 15.5% 0.1823 -1.0%SEK/CAD 0.1609 0.1929 -16.6% 0.1577 2.0% The British pound is SEK/JPY 14.66 13.20 11.0% 14.17 3.5% extremely undervalued CAD/JPY 91.08 84.22 8.1% 89.80 1.4% according to the purchasing-AUD/NOK 5.8550 4.7402 23.5% 5.1572 13.5% power-parity calculations ofAUD/SEK 6.5647 6.8784 -4.6% 5.9737 9.9% the Bloomberg Brief.AUD/JPY 96.22 62.33 54.4% 83.82 14.8%AUD/CHF 0.9714 0.8524 14.0% 0.9333 4.1%AUD/CAD 1.0565 0.7401 42.7% 0.9372 12.7%AUD/NZD 1.2381 1.2217 1.3% 1.1941 3.7%NZD/NOK 4.7292 3.8799 21.9% 4.3199 9.5%NZD/SEK 5.3023 3.1094 70.5% 4.9988 6.1% NZD/JPY 77.715 51.02 52.3% 70.563 10.1%NZD/CHF 0.7846 0.6977 12.5% 0.7851 -0.1% The blue highlights show undervaluations of less than -20 percent; overvaluations of 20NZD/CAD 0.8533 0.6058 40.9% 0.7867 8.5% percent or higher are highlighted in orange.  1 2 3 4 5 6 7 8 9 10 
  • 5. 03.11.13 www.bloombergbriefs.com Bloomberg Brief | Economics 5ValuationReal Effective Exchange Rates Fundamental Equilibrium Exchange Rates Overvaluation Country Overvaluation vs USD of REER 10.6% Australia 6.8% Norway 15.2% New Zealand 13.4% -3.1% China -5.9% Deviation of -7.6% Hong Kong -12.9% REER From 10- Sweden Year Moving 1.3% India -1.4% Average (%) 1.1% Indonesia -4.7% 1.1% Japan -2.4% Switzerland 1.0% Korea -2.4% -4.1% Malaysia -10.2% 1.0% Philippines -4.5% New Zealand -24.5% Singapore -28.5% -8.5% Taiwan -13.3% 1.1% Thailand -3.0% Australia 0.7% Israel -0.8% 0.8% Saudi Arabia -2.2% Canada CHF REER is 5.9% South Africa 3.8% about 5 percent 0.5% Czech Republic -0.4% above its 10-year 0.9% Euro Area -0.4% Euro Area moving average. 0.5% Hungary -0.3% 0.7% Norway -1.5% 2.2% Poland 1.4% U.K. 0.5% Russia -0.4% -13.7% Sweden -14.4% -4.3% Switzerland -5.5% U.S. 23.2% Turkey 21.9% 0.8% United Kingdom -0.5% 1.2% Argentina 0.2% Japan 2.3% Brazil 0.4% 0.5% Canada -0.4% -30% -20% -10% 0% 10% 20% 30% 1.1% Chile -0.8% Source: Bloomberg 0.9% Colombia -0.1% 0.5% Mexico -0.5% 2.2% United States 0.0% 0.7% Venezuela -1.0% Source: Peterson Institute for International Economics For the currencies of developed economies, real effectiveexchange rates (the trade-weighted exchange rate adjusted for The Singapore dollar is 28.5 percent below itsinflation) tend to revert to a long-term mean, such as the 10-year fair value versus the U.S. dollar.moving average. Deviations from that average are considered byeconomists to represent over- or undervaluation.  1 2 3 4 5 6 7 8 9 10 
  • 6. 03.11.13 www.bloombergbriefs.com Bloomberg Brief | Economics 6intervention policies Niraj Shah, Bloomberg Economist The table shows the intervention policies of various countries in the foreign-exchange markets. The nations highlighted in red are themost likely to intervene, based on historical moves and statements from central bank policy makers. % of % Change in Policy Majors World Currency Comment Rate Output Holdings (YoY) QE may have weakened USD. Fed purchases $40 billion of mortgage-backed securities per U.S. (USD) 21.42 0.25 -2.6 month. Euro Area (EUR) 18.69 0.75 6.5 ECB avoids talking about FX. Takes view FX should be determined by fundamentals. BOJ talking down JPY. Pursuing aggressive monetary easing by setting inflation target at 2 Japan (JPY) 8.38 0.1 -2.8 percent. BOE has talked about impact of stronger GBP. Governor King voted to expand 375 billion-pound U.K. (GBP) 3.49 0.5 14.4 QE program. Canada (CAD) 2.48 1 4.2 BOC Governor Carney denounced exchange rate manipulation. Australia (AUD) 1.97 3 -3.9 RBA has not signaled concerns over AUD strength. SNB set a minimum exchange rate of CHF1.2 vs EUR to prevent currency strength in September Switzerland (CHF) 0.94 0 72.6 2011. Sweden (SEK) 0.77 1 34.4 Deputy Governor Ekhol has talked about having ammunition to prevent SEK gains. Norway (NOK) 0.69 1.5 5.2 NOK strength was offset with rate cuts last year. Hong Kong (HKD) 0.36 0.5 9.6 HKMA operates a pegged exchange rate system. HKD vs USD managed between 7.75 and 7.85. New Zealand (NZD) 0.23 2.5 3.5 RBNZ Governor Wheeler ruled out QE. Claims rate cuts have minimal impact on NZD. EMEA Russia (RUB) 2.65 8.25 5.2 CBR uses an exchange rate target. A free float target due in 2015. Turkey (TRY) 1.11 5.5 34.4 CBRT uses the interest rate corridor and reserve requirement ratio to contain TRY appreciation. Poland (PLN) 0.74 3.25 8.5 NBP willing to intervene in FX if excess volatility in PLN. South Africa (ZAR) 0.58 5 -0.1 SARB actively accumulates reserves. Isreal (ILS) 0.35 1.75 1.7 Central bank willing to intervene to curb ILS appreciation. Czech Republic (CZK) 0.31 0.05 CNB may use FX intervention to weaken currency, having reduced the policy rate to 0.05 percent. Romania (RON) 0.26 5.25 -0.1 Uses managed floating target to keep EUR versus RON between 4.3-4.6. Hungary (HUF) 0.20 5.25 -4.2 New NBH governor may target a weaker HUF. Latin America Brazil (BRL) 3.54 7.25 5.6 BCB intervenes to keep USD vs BRL range-bound. Mexico (MXN) 1.65 4.5 11.3 Central bank set up mechanism in 2011 to prevent MXN weakness. No policy on MXN strength. Argentina (ARS) 0.64 12.2 -9.9 BCRA intervenes to weaken currency. Colombia (COP) 0.48 3.75 17.6 The government and central bank buy USD to prevent COP strength. Venezuela (VEF) 0.45 16.43 -9 The government devalued the VEF to 6.3 from 4.3 against USD on Feb. 8. Chile (CLP) 0.36 5 1.9 BCCH considering FX intervention. Halted USD buying in 2011. Peru (PEN) 0.25 4.25 28.5 BCRP intervenes to slow the pace of PEN strength rather than reverse the trend. Asia China (CNY) 10.46 6 4.1 PBOC sets USD against CNY rate. PBOC moving toward FX liberalization. India (INR) 2.64 7.75 -1.1 RBI intervenes in FX during currency volatility. South Korea (KRW) 1.60 2.75 5.6 New government tolerating FX appreciation. Increasingly uses macro prudential measures. Indonesia (IDR) 1.21 5.75 -2.9 BI intervenes in FX to combat IDR weakness. Taiwan (TWD) 0.51 1.88 2.5 Intervenes in FX to defend against an appreciation in TWD. Thailand (THB) 0.49 2.75 2.1 BoT uses FX intervention to contain volatility. Malaysia (MYR) 0.41 3 4.6 BNM allowed MYR to strengthen. Only intervenes in excessive volatility. Singapore (SGD) 0.34 0.04 5.4 The rise in SGD versus USD suggests MAS is willing to overlook currency appreciation. Philippines (PHP) 0.32 3.5 10.2 BSP uses FX intervention and macro prudential measures to smooth appreciation in PHP. Vietnam (VND) 0.18 9 SVB has left the USD vs VND rate unchanged since December 2011. Red highlights countries most likely to intervene in FXSource: Bloomberg  1 2 3 4 5 6 7 8 9 10 
  • 7. 03.11.13 www.bloombergbriefs.com Bloomberg Brief | Economics 7FX Reserves   Michael McDonough and Nipa Piboontanasawat, Bloomberg BriefFX Reserves by Country Asia’s FX Reserves, While Biggest, Grew Slowest FX Reserves By Region TOTALS FX RESERVES % of GDP % of Total 3M% Y/Y% 70% 16% Asia 6,668,659 30.1% 60.4% 1.0% 2.8% 60% 14% Europe 2,028,592 4.5% 18.4% 1.9% 15.7% 12% 50% Africa/Middle East 1,450,748 33.5% 13.1% 5.0% 13.2% 10% North America 266,579 1.4% 2.4% -0.5% 7.4% 40% South America 619,554 13.8% 5.6% 1.0% 7.6% 8% 30% All 11,034,132 11.7% 100.0% 1.6% 6.7% FX Reserves as % of World Total (ls) 6% China 3,311,590 40.1% 30.0% 0.8% 4.1% FX Reserves YoY% (rs) 20% 4% Japan 1,191,627 19.9% 10.8% -0.4% -2.8% 10% 2% Saudi Arabia 648,710 98.7% 5.9% 7.1% 23.4% Russia 475,261 24.3% 4.3% 1.6% -0.4% 0% 0% Switzerland 460,487 73.9% 4.2% 4.3% 80.9% Asia Europe Africa/ME N_America S_America Source: Bloomberg Taiwan 406,560 87.2% 3.7% 1.8% 4.2% Brazil 376,073 15.5% 3.4% -0.4% 6.1% Since the Asian financial crisis, countries in the region have built South Korea 328,910 28.6% 3.0% 1.7% 5.6% up foreign-exchange reserves to record levels. Asia currently Hong Kong 321,000 124.4% 2.9% 6.4% 9.6% holds 60 percent of global reserves, with China being the big- India 259,786 13.3% 2.4% 0.4% 0.1% gest holder, while Japan, Taiwan, South Korea, Hong Kong and Singapore 258,844 96.6% 2.3% 1.8% 5.4% India occupy five of the top 10 spots with the largest amount of Eurozone 219,849 1.8% 2.0% 0.7% 5.6% reserves. Even so, foreign reserves in Asia grew 2.8 percent in the Algeria 186,960 90.5% 1.7% 1.7% 4.7% latest period from a year earlier, the slowest pace when com- Thailand 171,258 45.4% 1.6% 0.3% 2.1% pared with other regions, suggesting Asian economies may not Mexico 165,005 14.2% 1.5% 1.5% 11.6% be aggressively pursuing weaker currencies. In Europe, where the Malaysia 134,902 43.9% 1.2% 1.8% 4.6% amount of reserves is only a third of Asia’s, they expanded by 15.7 percent, more than five times the pace in Asia. Indonesia 108,780 12.2% 1.0% -1.4% -2.9% Libya 107,571 126.4% 1.0% 0.5% 3.3% Turkey 104,999 13.4% 1.0% 5.8% 35.6% High Level of FX Reserves Raises Questions Poland 100,317 21.3% 0.9% 3.6% 11.9% Biggest Holders of FX Reserves Philippines 85,274 35.4% 0.8% 4.3% 10.2% 3500 700 Denmark 82,292 26.6% 0.7% 4.8% 5.2% 3000 600 Israel 78,400 31.8% 0.7% 3.3% 1.7% 2500 500 U.K. 64,947 2.7% 0.6% 1.6% 15.5% USD Billions Peru 58,161 29.0% 0.5% 6.8% 28.5% USD Billions 2000 400 Canada 55,243 3.1% 0.5% 0.7% 4.6% 1500 300Note: FX reserves are in USD millions for the latest reported period. 1000 200FX Reserves as Share of Total 500 100 0 0 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 China (ls) Japan (ls) Saudi Arabia (rs) Russia (rs) Source: Bloomberg Still, the high level of foreign exchange reserves of the world’s two biggest holders — China and Japan — has raised questions over their objectives. Reserves in China, which has been accused by the U.S. of keeping its currency weak to promote exports, swelled to $3.31 trillion at the end of 2012 from $286.4 billion a decade ago, representing a pace of $829 million per day. Yet, the yuan strengthened 33 percent against the dollar in that period. Japan’s foreign reserves have ballooned since the global financial crisis because of the yen’s status as a safe haven. China’s reserves stood at 40 percent of its GDP, while Japan’s are at 20 percent.  1 2 3 4 5 6 7 8 9 10 
  • 8. 03.11.13 www.bloombergbriefs.com Bloomberg Brief | Economics 8historical overview  joseph brusuelas, Bloomberg EconomistModern Currency Crises, Devaluations and Regime Changes Since Collapse of Gold Standard Year Country Comment 1929-1939 Beggar-thy-neighbor policies in Great Depression All countries on list devalued their currencies versus gold by more than 10 percent. 1930 Spain Spain devalues five times between 1929-1937. 1931 Austria, Italy, Spain Austrian real GDP contracted 24.5% from 1929-1933. Austria, Denmark, Finland, Greece, Japan, Norway, 1932 Japan departs from gold standard in 1931 and devalues yen over next three years. Sweden, Spain Volatility in Canadian dollar which returned to parity with USD by 1934. Bank of Canada 1933 Canada, Denmark, Greece, Japan, U.S., Yugoslavia started operations 1935. 1934 Canada, Denmark, Greece, Japan, U.S., Yugoslavia REER of Danish Krone declined by over 20% from 1929-1939. 1935 Belgium Belgian franc devalued by 28% in 1935. 1936 Italy, Romania, Spain Italian lira devalued by over 20% between 1935-1937. 1937 Czechoslovakia, France, Italy, Spain, Switzerland Switzerland exited gold standard in 1936 and franc devalued by 30% through 1938. 1938 France, Netherlands France departs gold standard in 1936, 28% depreciation in 1938. Collapse of Fixed Dollar Rate to Gold and Era of Floating Exchange Rates 1971 U.S. Abrogates Bretton Woods Agreement Nixon imposes 10% import tax when gold convertibility suspended. 1985 Plaza Accord G-7 agrees to greater policy coordination to improve function of floating exchange rate system. 1992 European Monetary System Crisis Italy withdraws from ERM Lira devalued by 7%. U.K. withdraws from ERM 29% adjustment in sterling between 9/92 & 2/11. 1993 Tequila Crisis 1994 Mexico, Argentina and Brazil 58% depreciation in Mexican peso between 2/94 & 3/95. 1997 Asian Financial Crisis Hong Kong, Indonesia, Malaysia, Philippines, South 57% depreciation in South Korean won in 1997. Korea 1998 Russian Financial Crisis Russia, Brazil, Hong Kong, Mexico 48% depreciation of the Brazilian Real Economic collapse, bank runs, debt default and end of fixed exchange rate to U.S. dollar. 2000-2002 Argentina Regime Change Resulted in 80% devaluation of peso. 2007-??? Era of Competitive Quantitative Easing U.S., euro area, Japan, U.K. Central bank asset purchases, currency depreciations and volatility.Source: Beth Simmons Who Adjusts? Domestic Sources of Foreign Economic Policy During the Inter-War Years, Princeton University Press, Bloomberg U.S. Currency Policy 1969-2013 Tensions between policymakers due to volatility inforeign-exchange markets pale in comparison to those Administration Period Policyinduced by the policies of the Great Depression. That pe- Nixon/Ford 1969-1971 Benign neglectriod saw tariff and non-tariff barriers imposed by countries 1971-1976 Abrogated gold standard & devaluationattempting to arrest the economic slide that characterized Carter 1977-1978 Supported dollar depreciationthe global economy in 1929-1939. The coordination be-tween the large global central banks that are engaging in 1978-1980 Intervened to reverse dollar depreciaitoncompetitive QE has avoided the outbreak of protectionism Reagan/Bush 41 1981-1984 Benign neglectthat was observed during the 1930s. In Thucydides’ History 1985-1986 Plaza accord and suppport of dollar weaknessof the Peloponnesian War, he stated: “The strong do whatthey can and the weak suffer what they must.” As the large 1987-1992 Promoted dollar stabilitycentral banks attempt to boost their economies via QE, Clinton 1993-1996 Support of weak dollarsmall and developing countries will likely have to adjust byaccepting faster inflation or accommodate to these policy 1997-2000 Strong dollar policychanges by accepting currency appreciation. Bush 43 2001-2007 Benign neglect 2008-2009 Supported weak dollar policy Obama 2009-2013 Supports weak dollar policy Source: Bloomberg  1 2 3 4 5 6 7 8 9 10 
  • 9. 03.11.13 www.bloombergbriefs.com Bloomberg Brief | Economics 9company focus bloomberg news as it seeks to minimize the exposure of its Volkswagen AG plans to benefit fromThese economy-related corporate anecdotes low-priced wine to the strength of Austra- lower labor costs and hedge against unfa-are taken from Bloomberg News stories and lia’s currency. “We’ve been squeezed by vorable currency fluctuations between thefocus on the impact of currency movements. the exchange rate,” he said. “I don’t see dollar and euro by building its best-selling there’s any Australian company that hasn’t Golf hatchback in Mexico. “With its exist- been squeezed by that.” (Jan. 15) ing infrastructure, competitive cost struc- — David Fickling tures and free-trade agreements, MexicoWatches is the ideal location to produce the Golf for Airlines the American market,” said Hubert Waltl,Swatch Group AG said its sales last head of production at VW’s passenger caryear would have been 500 million francs Swiss International Air Lines Ltd. brand. (Jan. 25)higher if the franc were still at 2010 levels. CEO Harry Hohmeister said he’d prefer — Christoph Rauwald“Foreign currencies stabilized somewhat the Swiss franc to weaken against theagainst the Swiss franc but remain sig- euro. “We can be very satisfied that the Vehicle Partsnificantly weaker than two years ago,” the SNB decided to set the threshold at 1.20company said in a statement. (Feb. 4) against the euro,” he said. A rate of 1.35 Linda Hasenfratz, CEO of Linamar — Anchalee Worrachate francs per euro would be “realistic when Corp., a Canadian maker of auto parts, you compare the economies, but I would said a strong currency is an opportu-Luxury Goods not recommend that the SNB intervenes in that regard.” (Feb. 6) nity for Canadian companies to expand abroad, instead of threatening manu- — Jennifer M. Freedman facturers such as her firm. “I like havingLVMH Moet Hennessy Louis Vuitton SA a stronger dollar, I think it makes us araised some prices by an average 12 per-cent at its flagship brand in Japan to offset Automobiles stronger country,” she said. “We can find ways to compete, and develop strategiesthe effect of the yen’s slide on sales. “We that allow you to compete, and focus onare an importer, so the weakening yen Honda Motor Co. claimed the weaker innovation as your primary path to com-and rising raw material prices are part of yen isn’t giving the Japanese company petitiveness, not a low dollar.” Linamarthe reason for the price increase,” spokes- an advantage in the U.S. “I defy anybody, has operations in Mexico, Hungary, Ger-woman Kaori Fuse said. The increase when we’re building 90 percent of what many, Asia and the U.S., and that diverseis the largest since the Japan unit was we sell here, to say we have a currency base provides a hedge against currencyestablished in 1978. (Feb. 20). advantage,” said John Mendel, executive fluctuations. “We’re pretty much naturally — Yuki Yamaguchi and Kenneth Maxwell vice president of U.S. sales. “I don’t think hedged,” Hasenfratz said. “That’s another the current level of 90-plus yen to the strategy Canadian companies should dollar is a cause for alarm.” The AmericanHarry Winston Diamond Corp. will raise be using, is to try to create as natural a Automotive Policy Council said in Januaryjewelry prices in Japan as the yen’s drop hedge as you can so you’re not impacted that President Barack Obama should tellmakes imports more expensive. The retail- by changes in the dollar.” (Feb. 8) Japan’s new government that the U.S. will — Ari Altstedterer got about 12 percent of revenue from retaliate for policies aimed at weakeningJapan in the year ended January 2012, the yen. “Nobody worried about Japan”according to Bloomberg data. (March 6) when the yen “went from 115 to 78, and Hankook Tire Co. in South Korea antici- — Yuki Yamaguchi said ‘Geez, I hope those guys are OK,’” pates its exports to be hurt as Japan’s Mendel said. “Now all the sudden it’s success in driving down the yen givesWine moderately off deathbed kind of rates, and everybody’s going ‘Unfair.’ Let’s focus on Japanese companies an advantage. “The Japanese government under Abe is trying the quality of products. Let’s focus on the to get their competitiveness by devaluingCasella Wines Pty., An Australian wine the yen against other currencies,” saidmaker, is looking at bottling so-called customer.” (Feb. 9) — Craig Trudell Lee Soo Il, head of Hankook Tire’s Chinabulk wine overseas to cut costs. “Bottling operations. “Short term, it’s going to workoverseas would carry risks” as local op- because they have price competitiveness.”erations would become more competitive Hankook is working to overcome the un- Nissan Motor Co. CEO Carlos Ghosn,should the Australian dollar decline, Man- favorable currency by improving product who has called 100 yen to the dollar theaging Director John Casella said. “The quality, strengthening its brand image and “neutral” value for the Japanese currency,danger is you do it and you’re in no man’s marketing. “Exports are going to be af- said the yen should weaken further. Theland — you’re over there when you should fected a little bit,” Lee said. “Already, some yen is “still far from neutral territory,” hebe here.” Casella has announced plans for are saying that Japanese products are said. (Feb. 26)a more expensive wine to sell at around reducing their prices.” (Feb. 28) — Anna Mukai and Yuki Hagiwara$10 a bottle and entered a potential beer — Alexandra Hojoint venture with Coca-Cola Amatil Ltd.  1 2 3 4 5 6 7 8 9 10 
  • 10. 03.11.13 www.bloombergbriefs.com Bloomberg Brief | Economics 10Q&AEichengreen of Berkeley Says World Needs More Reflation Policies to Support Growth Barry Eichengreen, a Over the last couple of weeks, Japanese do anything and Japan lapses back into professor of economics policy makers have made clear that their deflation and recession, that wouldn’t be a at the University of Cali- goal is to raise the rate of inflation to 2 good outcome for the rest of the world. fornia, Berkeley, spoke percent, try to end the country’s decade to Nipa Piboontana- plus of deflation, raise asset prices and Q: What about U.S. policy makers? sawat on Feb. 13 about get economic growth going again. We’re A: The experience of the 1930s suggests the so-called currency not mind readers. The best we can do is that if the U.S. economy is growing too wars, the weakening of to try to understand their objectives. slowly, if the dollar is too strong, if you the Japanese yen and need more support for economic growth, how other economies Q: But what the Bank of Japan is doing then the appropriate response is for the should respond. has the effect of weakening the yen. Fed to further ramp up its asset purchase A: Right, and if they don’t do that, with program. More quantitative easing hereQ: How serious are the present so- the Fed, the Bank of England, the Swiss will be good for demand, good for growth,called currency wars compared with National Bank and other foreign central and limit appreciation of the dollar. I don’tcurrency manipulation in the past? banks easing but the Bank of Japan not believe the conventional narrative thatA: The most direct parallel is from the easing, that would be a bad situation for characterizes the Fed as engaging in1930s, when virtually all countries turned Japanese exporters and producers for the currency warfare, any more than I wouldto expansionary monetary policies in domestic market as well. The over-strong characterize the Bank of Japan as beingresponse to the Great Depression. That yen has been a problem for the Japanese engaged in a currency war. It soundshad the effect of pushing their currencies economy for some time. What’s going on facile to say, but if this is currency wardown in the foreign exchange markets here is that the Bank of Japan and new then we need more of it. Expansionaryone at a time. People misunderstand that government are trying to get the economy monetary policy in Japan is good for Ja-experience when they call it “beggar thy going again. They are trying to get more pan under current conditions. Expansion-neighbor exchange rate policy” or “cur- demand for Japanese products both at ary monetary policy in the U.S. is good forrency war.” In fact, it was reflationary mon- home and abroad. They should be ap- the U.S. under current conditions whereetary policy, which was precisely what the plauded for doing so, if the alternative for growth is slow and inflation is too low.world needed in a period of depression, Japan is stagnation and no growth.deflation and slow or negative growth. Q: How much more competitive will theAnd that’s where we are now, again. We Q: What should other countries be do- weaker yen make Japanese exports?have slow growth, inadequate recovery or ing in response to the weaker yen? A: Exchange rates tend to react to mon-outright recession, in the U.K., continental A: What you should be doing depends on etary policy innovations before inflationEurope, Japan and the U.S. The central local conditions. If you are South Korea, does, but over time, if the BOJ is success-banks of these economies are all easing your currency is too strong because the ful, there will be more inflation in Japan.and trying to provide more support for won has been rising against the yen. Your That’s the goal of the policy. There willreflation and economic growth. The ECB, inflation is so low, because Korean core be a weaker yen in the foreign exchangeadmittedly, is doing less than the others. inflation is only 1.2 percent. And growth markets. The two things then cancel out.If they all do this at the same time, there is so slow, because it’s currently running Japanese goods are no more or less com-is no reason that their currencies need to below 2 percent. Monetary easing, just petitive if the yen is 10 percent weakermove against one another. like the BOJ has been doing, is appropri- and Japanese prices are 10 percent high- ate for your circumstances. On the other er. It’s important, in other words, not toQ: So it is quantitative easing? hand, if you are Mexico, and growth is too confuse nominal and real exchange rates.A: Yes, that’s what the Fed is doing. The fast, inflation is too high, you are worried What matters for export competitivenessFed is not trying to push down the dollar about frothy asset markets and now you is the real, inflation-adjusted exchangeagainst the euro or the yen. The goal in see your currency rising, the appropri- rate. Foreign exchange markets and stockJapan is to hit a 2 percent inflation target. ate response is to tighten fiscal policy. markets react overnight to what officialsThe BOJ has suffered from some self- Tightening fiscal policy translates into less say, but the inflation rate reacts over time.inflicted communication problems, but that spending at home, less inflation at home, So officials in Brazil and elsewhere whois essentially beside the point. less borrowing by the government, lower are complaining should be patient and interest rates, and therefore a weaker give the Japanese inflation rate more timeQ: How do you differentiate between currency. It’s better for other countries to to catch up.the two types of policies? figure out the appropriate domestic policyA: You try to identify the strategy and response than to complain about the BOJ. This interview was edited and condensed. The fulltactics and statements of policy makers. It makes no sense. If the BOJ were not to version is at {NSN MJGT536TTDS9 <GO>}  1 2 3 4 5 6 7 8 9 10