Debate about the prospect of a currency war has been raging for months, and a recent pledge by the world’s 20 largest economies not to devalue their currencies has done little to calm the rhetoric.
The ultra-loose monetary policies of the United States, Japan and Britain have depressed the values of the dollar, yen and sterling, angering emerging market economies whose currencies have strengthened as a result of the measures and sparking accusations of currency manipulation.
But are central bankers in the major economies really down in the trenches waging war over the value of their respective currencies?
Credit Suisse says no.
In a recent report entitled “Reports of a Currency War Have Been Greatly Exaggerated,” Credit Suisse Head of Global Commodities Strategy Ric Deverell and Anezka Christovova, a currency strategist at Credit Suisse, argued there was no evidence of “substantial manipulation” in the past year by the G4 economies, which include the U.S., EU, Japan and Britain. Any talk suggesting otherwise, the report said, was “much ado about nothing.”
“In our view, what we are primarily seeing is a move to increasingly experimental monetary policies aimed at boosting domestic demand,” Deverell and Christovova said in reference to the massive asset-buying programs of the United States and Japan.
Policymakers have had to resort to these “non-conventional policies” because lowering interest rates to near zero in response to the global recession failed to revive their stricken economies.
“While this has had an impact on exchange rates, it has not been the focus,” they said, adding that in “real effective terms,” the dollar, yen, euro and sterling were within 10 per cent of the 30-year average.
“There is little evidence that current exchange rates are substantially out of equilibrium,” Deverell and Christovova explained. “Based on the Credit Suisse fair value model, the (Chinese) RMB is the only currency significantly undervalued at present.”
It is not only emerging market currencies that have been appreciating in value.
Despite deep economic problems in the euro zone, the euro had been strengthening before the bailout of Cyprus was announced, fuelling fears that a strong currency could hurt European exporters and further delay the region’s recovery. The euro began rising again once Cypriot banks reopened, and continued as Japan announced its most recent stimulus.
The main reason for the euro’s strength, according to Credit Suisse, had been the reduction in the size of the European Central Bank’s balance sheet as euro-area banks began repaying emergency loans to the ECB.
The ECB balance sheet is shrinking just when the U.S. Federal Reserve and the Bank of Japan (BOJ) are expanding theirs through their respective asset-buying programs, putting upward pressure on the euro.
Credit Suisse expects the euro, which has been trading around $1.28, could reach $1.40 in the next year, as the Fed buys $85 billion in assets a month and the BOJ recently announced it would accelerate government bond purchases to nearly ¥84 trillion this year, the equivalent of 17 per cent of GDP.
However, the bank noted that downside risks to the euro were building as European economic conditions deteriorated.
The latest Markit composite purchasing managers’ index, which measures activity in the manufacturing and services sectors, came in at 46.5 in March, compared with 47.9 in February, indicating further contraction in those industries.
Markit chief economist Chris Williamson said the data suggested the euro zone recession was “deepening.”
European Central Bank President Mario Draghi on Thursday did not rule out an interest rate cut at the ECB’s policy meeting next month, and he left open the door to the use of “non-standard measures” to revive the economy, such as bond purchases.
With the major economies expected to continue their quantitative easing programs for the duration of 2013, Credit Suisse warned that emerging market policymakers, especially those who intervene to fix exchange rates, a process known as a dirty float, were “unlikely to be passive bystanders.”
In a report entitled “The ‘Real’ Currency Wars,” Credit Suisse said it expected to see “many dirty floats getting even dirtier over the coming year.”