The Global Currency War

I have written many times about the affect of currency pegging for the Chinese Yuan. As readers know, I consider this a major issue that has already sent ripples of tension through the global economy, most recently with Japan's efforts to weaken the Yen against the US Dollar.

My hope is that rational minds prevail because an all out currency war via quantitative easing is surly a downward spiral when viewed as a way to jump start stagnant, export oriented economies. Currency wars could lead to tariffs, which was the death knell during the 1930's Great Depression.

The following article does an excellent job of outlining the global currency situation. I encourage the Wall Street Journal and Barron's to publish detailed analysis in this area. It is an important issue for America.

Forsyth, Randall W., 2010. Central banks embrace risky currency gambit. Barron's, Sept. 17.

Simply put, Central banks are out of conventional options as interest rates approach zero and major economies remain stagnant. The radical step is to purchase bonds thus injecting cash into the money supply, driving bond prices higher, interest rates even lower, and the currency weaker.

However, as the following quote (Stephanie Pomboy) from the article indicates, devaluation of currencies can not all happen at the same time:

"But there is a potential dark side, concludes Pomboy. While the worldwide push down on interest rates 'unleashed a torrent of capital, lifting all economic 'boats' and bringing the world together, pushing down [currencies] will tear the world apart. Everybody can lower rates simultaneously. Everybody cannot debase their currencies at once.'"

She concludes that this "threatens to end the Era of Globalization."

I believe that this outcome is possible, and that investors are seeing the start of this process.

Mr. Forsyth's article goes on to state:

"One reason for optimism that won't happen is policy makers seem to have learned from history and seem intent not to repeat the mistakes of the past. The rapid, forceful and internationally coordinated response to the near meltdown of the global financial system in 2008 was to avoid a rerun of the 1930s and the failures of policy then. The collapse of international trade then resulting from the waves of currency crises and other protectionist measures transmitted the Great Depression around the globe; that is another lesson learned from that era."

In my opinion, this statement is unrealistic in the face of political pressures being felt in all of the major global economies. The US, Japan, China, France, Germany, U.K., and Italy experience various political pressures ranging from high unemployment to the demands of exporters. All of these pressures are significant, prompting radical Central bank action.

In conclusion, watch the currency markets closely during the next few weeks for signs of intervention and a desire to weaken various currencies.