The global currency war is threatening to prove a silent killer.
So says David Woo, head of global rates and currencies research at Bank of America Merrill Lynch in New York.
While some question the existence of any conflict — arguing that falling exchange rates merely reflect efforts by central banks to spur lacklustre domestic economies — Woo expresses concern.
“There is a growing consensus in the market that an unspoken currency war has broken out,” he said in a report to clients this week. “The reason why this is a war is that it is ultimately a zero-sum game — someone gains only because someone else will lose.”
The standard view on war-mongering is that by easing monetary policy, central banks from Asia to Europe are hoping to weaken their currencies to boost exports and import prices. Trade rivals then retaliate, creating a spiral of devaluations as witnessed in the 1930s.
Just this week, Reserve Bank of Australia Governor Glenn Stevens said “a lower exchange rate is likely to be needed” after he unexpectedly cut interest rates to a record low.
Sweden’s crown fell to a six-year low and its stock market hit a record high on Thursday after the central bank in Stockholm surprised investors by launching a stimulus program and cutting its main interest rate below zero.
The Riksbank lowered its key repo rate by 10 basis points to -0.10 percent and said it would buy 10 billion crowns of government bonds a month. It said it was prepared to do more at short notice to safeguard its inflation target of 2%.
More than a dozen central banks have injected extra stimulus so far this year, while for much of the past two years the G-20 has formally committed to refrain from targeting “exchange rates for competitive purposes.”
That leaves Woo, a former International Monetary Fund economist, declaring the war is one of “stealth” and warning the fallout from it is already roiling financial markets in a way undetected by most.
By measuring the volatility of currencies, which he calculates as the difference between the maximum and minimum exchange rate over a 26-week period, Woo estimates the dollar has been swinging about 20% against both the yen and the euro. In the past 15 years it was only higher following the collapse of Lehman Brothers Holdings Inc. in 2008.
A second gauge of volatility that weighs currencies based on the gross domestic product of 20 major economies delivers the third-highest reading in two decades, topped only by the Asian crisis of 1997-98 and Lehman’s demise, he said.
It is these fluctuations that are threatening to undermine the global economy more than some realize, Woo said.
First, they will make it costlier for companies to take out insurance against currency flows, eating into profit margins of exporters. More volatility may also force companies to focus more on their home markets, further reducing already lacklustre international trade. Making foreign direct investments will also be less appealing, forcing up the cost of capital for those countries with current-account deficits.
Woo’s bottom line: “A weak currency might provide a short-term boost to the countries engaging in currency devaluation,” he said. “However, if everyone is playing the same game, all we will end up with is more and higher FX volatility. This in turn will likely exact a toll on global trade and capital flows.”
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Interesting ... I had suspicions that something like this might be happening although I was not sure the cause and motives behind it.
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