The looming currency war that IMF chose to ignore

The looming currency war that IMF chose to ignore

Good morning and welcome to today’s foreign exchange market commentary on Friday, the 8th of February.

With the world starting to witness currency skirmishes, the need for macroeconomic cooperation to avoid a full fledged war has never been more urgent. Yet, the International Monetary Fund, the multilateral monetary agency best suited to avoid such a situation, has chosen to keep its eyes shut. This silence is regrettable since it raises the danger of beggar-my-neighbour type policies that had polluted the 1930s economic landscape.

The Brazilian Finance Minister Guido Mantega had sounded the alarm of such a currency war as early as September 2010. Mantega pressed the panic button after a flood of foreign capital swamped the domestic economy, pushing the Reais through the stratosphere and damaging Brazilian exports in the process. The highly unconventional monetary policies of the US and the UK, along with the continued Chinese policy of currency manipulation, triggered Mantega’s concern.

Since his public criticism of central bank policies in 2010, the US Fed announced a third round of stimulus measures. This time the Fed linked the assets purchase program to unemployment rate and announced interest rates will be kept artificially low at least through 2014.

Not to be left behind, the Japanese government has also jumped into the fray. Bowing to pressure from a newly elected government, the Bank of Japan has raised its inflation target rate and indicated it’ll initiate an open-ended assets purchase program next year.

The uncoordinated monetary policies have resulted in more than 10 percent real appreciation for the euro in the past six years. The aggressive austerity measures being followed by the Europeans at the time of a serious domestic credit crunch has taken its toll on the region and a strong currency is the last thing the union needs since it can choke off the region’s only source of survival. Yet that spectre now looms large as central banks continue to fight it out with aggressive easing measure.

The IMF was created in 1944 with the specific aim of avoiding the follies of the 1930s. Yet the institute has failed to rise up to the occasion to avert beggar-my-neighbour type fallacies when the real risk of a full-blown currency war threatens the fragile recovery of the global economy.

CURRENCY RATES OVERVIEW

GBP/EURO – 1.1738
GBP/US$ – 1.5724
GBP/CHF – 1.4434
GBP/CAN$ – 1.5694
GBP/AUS$ – 1.5261
GBP/ZAR – 14.0380
GBP/JPY – 145.96
GBP/HKD – 12.2048
GBP/NZD – 1.8824
GBP/SEK – 10.0651

EUR: The euro weakened yesterday after the European Central Bank admitted the common currency’s strength could hurt the region’s recovery though Mario Draghi backed up his comment saying controlling exchange-rate is not on the central bank’s agenda. The EUR/USD fell to a trough of 1.3369 before recovering to 1.3392 after Mario Draghi said economic activity in the currency zone should recover by the end of the year. On a cautionary note, he warned recovery was skewed toward downside risks. The central bank kept interest rates unchanged, as widely expected. The Economic Summit continues in Brussels today and expect some volatility should anything of importance be said. No data is due from UK today and European data is low-tier and is unlikely to move markets.

USD: The greenback fell against sterling yesterday after the incoming governor of the Bank of England Mark Carney quelled speculations that he would look to extend the assets purchase program. Cable pushed higher above the 1.57 level against the US dollar after Carney said it is entirely possible that the BoE’s current policy stance is consistent with the economy achieving escape velocity. The Bank of England also kept interest rates on hold, indicating given time, the status quo will suffice for economic recovery. However, the ICE dollar index, a gauge of the greenback’s strength against a basket of six global currencies, barely moved and stood at 79.724 compared to 79.728 on Wednesday. The US unit rose marginally against the Japanese yen, buying 93.41 yen from 93.37 in the prior session. We have the US trade balance number due today and analysts expect a slight improvement in deficits, giving some boost to risk sentiments as we into the weekend.

Have a great weekend!

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