Question of the Week!

QUESTION OF THE WEEK

by RM Group of Richardson GMP

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QUESTION OF THE WEEK

Foreign Exchange has become a hot topic of debate, especially with the G20 meetings currently underway in Moscow. Should we be concerned about a currency war?

Accusations of currency manipulation began in 2010 when the Federal Reserve revved up its printing presses and bought government bonds with newly minted U.S. dollars in an exercise known as Quantitative Easing. Emerging market economies claimed this move intentionally devalued the U.S. dollar and was designed only to boost U.S. exports and grow the U.S. economy at their expense. More recently, those same charges have been levied against Japan, sparking concerns of a global currency war, as governments fight to intentionally weaken their currency and put trade protectionist policies in place. In the case of Japan, Prime Minister Shinzo Abe has promised bold monetary stimulus in an effort to break the Japanese economy out of its multi-year deflationary spiral. Since last September, the Yen has fallen 15% versus the U.S. dollar and 20% versus the Euro.

The notion of a currency war serves to distract investors since currency wars are typically the precursor to ‘trade wars’ and protectionism. How does a country stop the pain when one of its trading partners pushes down their currency? They fight the loose monetary stimulus wither with restrictive tariffs or they enact their own monetary easing to weaken their currency as well. Both are outcomes G20 policymakers are currently trying to avoid. Tariffs lead to a contraction of overall GDP because aggregate global economic activity decreases. Retaliatory monetary easing carries the appearance that economic activity is growing but often it is pushed too far, and inflation kicks in. Inflation in countries with high debt loads would force a vicious cycle of further indebtedness, higher taxes, and lowered credit ratings.

The suggestion of currency manipulation to boost exports is short sighted. The objective of Quantitative Easing is to stimulate domestic spending & investment rather than saving & thrift. If successful, QE should eventually lead to higher imports from those very nations that are now crying foul about currency manipulation (Brazil, Russia, etc.) Aggressive monetary action applied to an economy suffering from weak demand and subdued inflation is ideally a good thing for the rest of the world, not bad. The IMF demonstrated that America’s rounds of QE boosted growth in its trading partners’ by 0.3%.

^{Source: Richardson GMP Limited
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