As the European Central Bank prints more money, and lowers its interest rates, demand for the euro in the foreign exchange market falls because capital leaves the country to find better return abroad. This weakens the euro which makes its exports less expensive, and stimulates employment in the domestic economies of the Eurozone.
Of course, this also weakens export driven economies like those in Asia (and in the US), which could lead to a "currency war" where rival central banks print money and reduce interest rates to keep their own currencies low.
South Korea ... currency fell 0.5% against the dollar and 0.7% versus the euro on the news.
Thailand’s decision to cut rates Wednesday also helps its exporters, who have been complaining recently about the baht currency’s relative strength.
No matter what the rhetoric is from central bankers, many of them are hoping that rate cuts help lower the value of their currencies versus those of their neighbors.
“They’re thinking of it in the context of currency wars,” said David Mann, chief economist in Asia at Standard Chartered Bank.
As the MBAOracle.com says: Use game theory to figure out where self interest is taking you; if you don’t like where that is, change the rules of the game.
The US dollar reached a 12-year high against the euro and has a 20 percent gain against the major currencies. US business may feel this year a low in exports earnings. US has a “dominant 62 percent share of global currency reserves, according to the International Monetary Fund, though that's slipped from more than 72 percent in 2001” . (Gilbert, 2015). A weaker Euro favors employment in the Euro zone and encourages exports within Europe but also to US and Asia. This may seem favorable in the short run for allowing the European businesses to strengthen their domestic base as well as their overseas deployment. The RMB (yuan) “still only accounts for 2.06 percent of global transactions” (Gilbert, 2015) and seems to take the same approach: weakening its currency to encourage exports, while promoting its currency use on the Asian market.
ReplyDeleteReferences:
Gilbert, M. 2015. China's Plan for Winning the Currency Wars. Retrieved from http://www.bloombergview.com/articles/2015-03-11
Liam Halligan from the Telegraph, questions “Why are the euro and the pound currencies falling?” The main reason is that the European Central Bank waited until a week ago to print money under euro-QE [Quantitative Easing].
ReplyDeleteThe recent actions of the central bankers have created market instability, increasing international conflict. There are speculations that the Fed could soon raise the interest rates.
The Fed in the US is worried that the flood of a strong capital investment is keeping long-term borrowing in the US. 'This makes Fed tightening even more urgent, in their view, implying a "higher path" for coming rate rises.' Pre-market indicators suggest this may happen as early as June 2015.
The statement that the dollar it is more dollarized today makes the credit system more sensitive to any changes by the Federal bank.
The world is on a dollar standard, not a euro or a yen standard, and that is why it matters so much what the Fed does, said Stephen Jen, a former IMF.
China has started liquidating their reserves, thus creating a monetary tightening, while Russia and Brazil cannot afford cutting rates. If they do, their currency will slide even further. Currency wars are not only taking place between the developed world and the emerging markets, but with the developing nations as well.
(2015, March 16). Currency Wars Threaten Lehman-Style Crisis Retrieved from http://www.telegraph.co.uk/finance/ comment/ambroseevans_pritchard/11465481/Global-finance-faces-9-trillion-stress-test-as-dollar-soars.html
(2015, March 16). Currency Wars Threaten Lehman-Style Crisis Retrieved from http://www.telegraph.co.uk/finance/comment/ambroseevans_pritchard/11465481/Global-finance-faces-9-trillion-stress-test-as-dollar-soars.html
“The term gets tossed around a lot, but the meaning and consequences of a ‘currency war’ aren't intuitively clear” (Phil's stock world 2015). For example, the currently very strong dollar should be a good thing, since it seems to imply that the rest of the world is impressed enough to covet our currency. However, beyond a certain point the strong solar could become a potentially huge problem.
ReplyDeleteAs stated in the blog, capital leaves the country to find better return abroad, which weakens currency and makes exports less expensive. Conversely, a strong currency makes exports more expensive and therefore a tougher sell, resulting in falling corporate profits.
“So this is what it means to lose a currency war: plunging corporate profits, falling stock prices, a slowing economy, rising layoffs. Then, when the reality of a weaker economy reaches Main Street, angry voters, difficult elections, and regime change. This last part is of course unacceptable to the people managing economic policy and is why virtually no one can accept defeat in such a conflict” (Phil's stock world 2015).
References:
- Phil's stock world: This is what it means to lose a currency war (2015). Chatham: Newstex.
A Prisoners’ Dilemma a game in which conflict and cooperation are in tension; self-interest leads the players to outcomes that no one likes. It is in each payer’s individual interest to not cooperate regardless of what the others do. Thus, both players end up not cooperating. Their joint interest would be better served, however, if they could find a way to cooperate. (Luke, McCann, Shor, & Ward; 2014) The problem I continue to see is that countries have the mindset they are the only ones to benefit from financial and economic situations. Countries need to think globally and not just themselves and if one fails it will impact others. For example: If you read in the other blog on how Greece is playing chicken with its creditors in the European union. Greece is in such a hole, that it is dragging down the Euro almost single handily, while countries like Germany with a stronger position are getting suffering from the rippled effects of the Euro strength to the USD decline. In this situation, it would be in the best interest for Germany to make sure Greece is able to succeed. However, this can impact the treatment of Spain and Italy in the future. The USD will continue to gain strength against the Euro, however there will become a point when the USD can weaken with the investment or exportation to the European Union. At which point China would become concerned with the purchasing they have done against the treasury, thus it’s a global problem, not just a U.S. or European problem
ReplyDeleteLuke, F., McCann, B, Shor, M., & Ward, M. (2014). Managerial Economics; A Problem Solving Approach (3rd ed.). Mason: South-Western Cengage Learning
Recent movements by central banks have attempted to stimulate economies by devaluing their currencies with the hope of stimulating exports and growing domestic businesses. Such actions come at the expense of other countries and their ability to export products. This sequential move cycle is a downward spiral as each country tries to manage their own economic issues and currency valuation in response to the world economy and what other countries have done in previous moves of this high stakes strategic game (Froeb, McCann, Shor, & Ward, 2014, p. 170).
ReplyDeleteIn world economic, countries often interact with prisoner’s dilemma mentality with a focused upon self-interest or preservation versus cooperation. With this type of approach, the world economy suffers, and individual countries, companies and investors are whipsawed back and forth by the currency wars being waged. The game will continue to playout until, like in a game of chicken, someone swerves or the world goes into a global recession. And, with a global recession, no one wins the game, and the sideline players of third world or emerging markets often become the biggest losers without playing (Froeb, et. al., 2014, p. 178).
For Star Trek fans, Captain Kirk was famous for being the only one to beat The Kobayashi Maru. He did it by changing the program or the rules of the game. Countries need to do the same thing on the world economy and find ways to cooperate (Froeb, et. al., 2014, p. 177). Historically, the Plaza Accord in 1985 and the Louvre Accord in 1987 where attempts by several countries to manage currencies and the economy (Newton, 2015). There is pressure for global leaders to again look at this type of teamwork and change the rules. The good news for countries is that they are not subject to antitrust laws, and they can fix prices and currencies through cooperation that allows for a smoother transition for growth and prosperity (Froeb, et. al., 2014, p. 175).
The steps will not be easy, and like in a game of chicken, the players will have to be committed to not swerving, or it will again go back to a prisoner’s dilemma where self-interests of a country are served in the short term and not the overall win-win of a long-term global solution are achieved.
Regards,
Karen Whelpley
Work Cited
Froeb, L., McCann, B., Shor, M., & Ward, M. (2014). Managerial Economics: A Problem Solving Approach (3rd ed.). Mason: South-Western Cengage Learning.
Newton, M. (January 8, 2015). Beware the Currency Wars of 2015: More aggressive currency devaluations in Asia and Europe could create great systemic risks world-wide. Web. (April 8, 2015). Retrieved from:
http://www.wsj.com/articles/mike-newton-beware-the-currency-wars-of-2015-1420760225
The currency war as a prisoner’s dilemma strategic can include policies that drive where investors decide to invest their assets. For example, if the European Central bank prints more money and lower interest rates it would more than likely increase inflation because the money supply expansion will increase consumer consumption of goods and services. The increased consumption will cause inflation by inflating the cost of materials, and production assets such as human resources. The countries outside the European block may be provoked because of the direct attack against their exports will either follow suit causing a currency war or use measures that leverage their stronger currency as a safe haven for assets against inflation as well as providing tax relief for investment capital gains. This counter measure will cause firms and investors to move assets to protect against inflation and taxes or get a better deal where worker wages and inflation is lower. This counter measure could also cause an increase of taxes to the European consumer for the need to replace the lost tax revenue from firms and investors whom move assets to countries that protect their assets against the cost of inflation and/or allow improved returns because of lower tax structure.
ReplyDeleteTheFlipSideDown
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