Monday, October 11, 2010

Currency wars are necessary if all else fails - Telegraph

One of my favorite columnists, Ambrose Evans-Pritchard of the London Telegraph had a interesting piece out yesterday.

Many people, including myself, view the on-going currency wars with some concern. "Beggar thy neighbor" strategies will resonate well initially with the local electorate, but eventually such policies will hurt all that are involved, in my opinion.

However, Mr. Evans-Pritchard points out that the U.S. policy may in fact be rational:

The countries actively intervening in exchange markets to suppress their currencies – China, Japan, Korea, Thailand, even Switzerland, to name a few – are all too often the same ones that have the biggest trade surpluses with the US.

They are taking active steps to prevent America extricating itself from the worst unemployment since the Great Depression, now 17.1pc on the latest U6 index and rising again.

Each country is doing so for understandable reasons: Japan to avoid a deflationary crisis, China to hold together a political order that is more fragile than it looks. In both these cases they are trapped because they clung too long to a mercantilist export strategy, failing to wean themselves off American demand when the going was good.

Yet this is an intolerable situation for the US. It should be no surprise that Washington has begun to retaliate in earnest, and not just by passing the Reform for Fair Trade Act in the House (not yet the Senate), clearing the way for punitive tariffs against currency manipulators.

Mr. Evans-Pritchard goes on to say that he feels the Fed is working with the Treasury to try to devalue the dollar in order to stimulate our economy. In this view, QE2 is not a possible effort to rescue the banking system, but rather a blatant warning to the Chinese that they should allow the yuan to appreciate, or face the reality that their dollar reserves will continue to lose their value.

Currency manipulation can be a dangerous business, in my opinion, since markets can move farther and faster than governments can control. Moreover, the dollar has been the reserve currency for the world since the end of World War II; if we deliberately devalue our currency, many countries may decide that they would like to try to create an alternative global reserve currency.

This could also be serious business. The U.S. has been able to borrow and spend without any real consequence since we are the only nation that can print currency to pay back our global creditors. Losing this status could force us to face the consequences of our huge fiscal debts much sooner than we expect, with concomitant economic consequences.

Currency wars are necessary if all else fails - Telegraph