Chances of winning a currency war lower than ever
It’s been a year since a sudden, 1.9 per cent decline in the Chinese yuan rattled global markets and prompted fears of a global currency war.
China has mostly soothed nerves by moderating the renminbi’s swoon since then. But what should really put minds to rest is the knowledge that no one — not even China, which arguably did power its rise, at least in part, on the back of an artificially depressed yuan — could win a true currency war today.
The temptation to gain an advantage over competitors with a cheaper currency hasn’t diminished, of course. First and foremost, devaluation holds out the promise of boosting exports by making them less expensive. Where a country has substantial external borrowing in its own currency, a weaker currency also engineers a transfer of wealth from foreign savers, as the value of those securities falls in US dollar terms. Devaluation may also stimulate inflation as the higher cost of imported products pushes up price levels.
In recent years, governments have refrained from intervening directly in currency markets, preferring to use monetary policy to help drive down the value of their currencies.
These policies — on display most notably in Japan and Europe — are supposedly intended to increase demand. But households and companies are reluctant to borrow more for consumption or investment.
Instead, low and in some cases negative rates have served to reduce the cost of servicing debt and, by encouraging capital flight, to create pressure on the currency.
It’s not clear, however, that this strategy of implicit devaluation can achieve any wider benefits. For one thing, a weaker currency no longer guarantees an increase in exports. Demand remains sluggish because of the slowdown in global growth.
And countries have simply gotten better at defending against artificially cheapened goods. They now deploy a range of covert trade restrictions, from highly restrictive procurement policies to local-content provisions that favour national suppliers.
In 2015, the number of discriminatory measures introduced by governments rose 50 per cent from the year before, of which G20 countries accounted for over 80 per cent.
A currency war is winnable only if a single country resorts to devaluation. Every nation can’t simultaneously have the cheapest currency. That doesn’t mean countries won’t try to gain an advantage. But their chances of succeeding are lower than ever before.