Tags: Currencies | Bottom | Central Banks | Ease

Currencies' Race to Bottom Resumes as Banks Ease Anew

Monday, 11 Nov 2013 07:36 AM

The global currency wars are heating up again as central banks embark on a new round of easing to combat a slowdown in growth.

The European Central Bank cut interest rates last week in a move some investors say was intended in part to curb the euro after it soared to its highest level since 2011. The same day, Czech policy makers said they were intervening in the currency market for the first time in 11 years to weaken the koruna. New Zealand said it may delay rate increases to temper its dollar, and Australia warned its Aussie is “uncomfortably high.”

“It’s a very real concern of these countries to keep their currencies weak,” Axel Merk, who oversees about $450 million of foreign exchange as the head of Palo Alto, California-based Merk Investments LLC, said in a Nov. 8 phone interview. ECB President Mario Draghi, “persistently since earlier this year, has been trying to talk down the euro,” Merk said.

With the outlook for the global economy being downgraded by the International Monetary Fund and inflation slowing to levels that could hinder investment, countries and central banks are revisiting policies that tend to boost competitiveness through weaker currencies.

Mantega’s ‘War’

The moves threaten to spark a new round in what Brazil Finance Minister Guido Mantega in 2010 called a “currency war,” barely two months after the Group of 20 nations pledged to “refrain from competitive devaluation.”

“We’re seeing a new era of currency wars,” Neil Mellor, a foreign-exchange strategist at Bank of New York Mellon in London, said in a Nov. 8 phone interview.

The ECB lowered its main rate on Nov. 7 by a quarter-point to a record 0.25 percent, a move anticipated by just three of 70 economists in a Bloomberg survey. Draghi said the cut was to reduce the risk of a “prolonged period” of low inflation and the euro’s strength “didn’t play any role” in the decision. Euro-region consumer-price inflation has remained below the ECB’s 2 percent ceiling for the past nine months.

The euro plunged as much as 1.6 percent against the dollar on the day of the rate cut, the most in almost two years, before ending the week at $1.3367. The shared currency pared its gains versus a basket of nine developed-market peers this year to 5.5 percent, from as much as 7.2 percent at its Oct. 29 peak, Bloomberg Correlation-Weighted Indexes show.

‘Quite Weak’

“There are places in the world where economies are generally quite weak, where inflation is already low,” Alan Ruskin, the global head of Group-of-10 foreign exchange in New York at Deutsche Bank AG, the world’s largest currency trader, said in a Nov. 8 phone interview. “Japan was in that mix for 20-odd years. Nobody wants to go there” and “the talk from Draghi shows they’re taking the disinflation story very seriously. The Czech Republic is the same story.”

The Czech National Bank drove its koruna down by 4.4 percent versus the euro on Nov. 7, the most since the single currency’s creation in 1999, when it intervened to spur inflation. Governor Miroslav Singer pledged to keep selling koruna “for as long as needed” to boost growth.

The IMF last month cut its forecast for global economic growth to 2.9 percent in 2013 and 3.6 percent in 2014, from July’s projected rates of 3.1 percent and 3.8 percent. It also sees inflation in developed economies remaining short of the 2 percent rate favored by most central banks.

Trade Slowdown

Growth in global trade may slow to 2.5 percent in 2013, the new head of the World Trade Organization said at after a Sept. 5-6 summit of G-20 nations in St. Petersburg, Russia, down from the organization’s previous estimate in April of 3.3 percent. Even so, the participants agreed to “refrain from competitive devaluation” and not “target our exchange rates for competitive purposes.”

“The idea that central banks are setting policies to weaken their currencies has always been overstated,” Adam Cole, Royal Bank of Canada’s London-based head of G-10 currency strategy, said in a Nov. 8 phone interview. “In most cases they’re happy to see their currencies fall, but they’re not going out of their way to induce weakness.”

German airline Deutsche Lufthansa AG cited the strong euro last month when its profit estimate fell short of analysts’ forecasts, while French luxury-goods maker LVMH Moet Hennessy Louis Vuitton SA said Oct. 16 that its gains versus the dollar and Japanese yen shaved 6 percent off third-quarter revenue.

Lufthansa, LVMH

Lufthansa said Oct. 22 that this year’s operating profit will be 600 million euros ($802 million) to 700 million euros, below an estimate of about 918 million euros by analysts surveyed by Bloomberg. LVMH, whose Louis Vuitton brand’s founder built his reputation as a luggage-maker for the wife of Napoleon III, said it has hedged 90 percent of its euro-yen exposure for this year and about 66 percent for next year.

“Do I think the euro-zone central bank wanted to engage in a currency war?,” Lane Newman, a director of foreign exchange at ING Groep NV in New York, said in a Nov. 8 phone interview. “I think, post facto, yes. Because they cut rates knowing it was going to put the euro on the back foot.”

While the ECB hasn’t said it’s explicitly targeting the euro, comments from policy makers signal that they consider exchange rates in their decisions.

‘Attentive’ ECB

“As you know, the exchange rate is not a policy target for the ECB,” Draghi said at a press conference Oct. 2. “The target for the ECB is medium-term price stability. However, the exchange rate is important for growth and for price stability. And we are certainly attentive to these developments.”

At the same time the ECB is easing, the U.S. Federal Reserve said it will continue to print enough dollars to buy $85 billion of bonds each month because the economy is still too weak to stand on its own. The Bank of Japan is also employing a policy of quantitative easing.

Reserve Bank of New Zealand Governor Graeme Wheeler has cited the risk of slow inflation and currency gains, which Bloomberg Correlation Indexes show is up 4.9 percent since June, as reasons for not lifting the nation’s official cash rate from a record-low 2.5 percent this year. That’s even with the need to tackle what he has described as an overheated housing market.

Australia’s dollar is 27 percent overvalued against the greenback, according to a gauge of purchasing-power parity compiled by the Paris-based Organization for Economic Cooperation and Development.

‘New Era’

The Reserve Bank of Australia lowered its growth estimate for next year to 2 percent to 3 percent, compared with 2.5 percent to 3.5 percent three months ago. South Korea’s finance ministry warned last month that it could act to counter “herd behavior” in the currency, as the Bank of Korea cut its outlook for the economy.

The Fed said in October it needed to see more evidence of a U.S. recovery before it trims the Treasury and mortgage-bond purchases it uses to pump money into the financial system.

Analysts surveyed by Bloomberg last week expected the Fed to delay tapering until March even though a Labor Department report on Nov. 8 showing employers added a more-than-forecast 204,000 workers in October.

“People aren’t as content as they once were about being on the end of dollar weakness, and hence an appreciation of their own currencies,” Mellor said. “We’ve had a change in tone from South Korea, Australia and New Zealand. We’re seeing a new era of currency wars.”

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The global currency wars are heating up again as central banks embark on a new round of easing to combat a slowdown in growth.
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Monday, 11 Nov 2013 07:36 AM
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