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No End in Sight for Global “Currency Wars”

Gary Dorsch
Editor Global Money Trends magazine

Posted Feb 16, 2013

With frigid temperatures expected to hover between 15-degree and 23-degree Fahrenheit this weekend in Moscow, it’s a wonder why the world’s most powerful finance chiefs and central bankers would schedule their Feb 15-16th meeting in Vladimir Putin’s backyard. Instead, a better venue for the Group-of-20 would’ve been the Cayman Islands. The Islands are warm year-round, with average highs holding steady in the 80’s. January and February are the coolest months with lows averaging in the lower 70’s. However, Russia holds the presidency of the G-20 this year, - so finance chiefs will have to endure the frozen tundra.

A January 16th warning issued by Russia’s central banker Alexei Ulyukayev has also set the narrative for the G-20 meeting. “The world is on the brink of a fresh “currency war.” Japan is weakening the yen and other countries may follow. If Japan continues to pursue a softer currency, reciprocal devaluations would hurt the global economy,” Ulyukayev warned. “We’re on a threshold of very serious and confrontational actions. The new government of Japan is a course towards a very protectionist monetary policy through a sharp depreciation of the yen. Other colleagues from respected central banks and governments already pursue this policy. This is not a path towards global coordination but rather a separation,” Ulyukayev declared.

Guido Mantega, Brazil’s finance minister, quickly chimed in, warning that the Federal Reserve’s “protectionist” gambit to roll out more quantitative easing (QE) would reignite “currency wars” with drastic consequences for the rest of the world. “It has to be understood that there are consequences. The Fed’s QE-program ($85-billion per month of money printing) will “only have a marginal benefit in the US as there is already no lack of liquidity. And that liquidity is not going into production. Furthermore, Japan’s decision to expand its own QE, coming on the heels of the Fed’s decision (to expand QE to $85-billion per month), is evidence of growing global tensions. That’s a currency war,” he declared.

Yi Gang, a deputy governor of the People’s Bank of China (PBoC), and chief of the State Administration of Foreign Exchange, said he’s worried about the fallout from QE and the Zero Interest Rate Policy (ZIRP), in the G-7 economies. “QE for developed economies is generating volatility in financial markets in terms of capital flows. Competitive currency devaluation is one aspect of it. If everyone is doing super QE, which currency will depreciate?” he asked.

As the European, Japanese, and US-governments sink deeper into a morass of debt, the ruling politicians are pressuring their central bankers to print more money, in order to finance their budget deficits. So far, five central banks, - the Federal Reserve, the European Central Bank, Bank of England, the Bank of Japan and the Swiss National Bank have effectively created more than $6-trillion of new currency over the past four years, and have flooded the world money markets with excess liquidity. The size of their balance sheets has now reached a combined $9.5-trillion, compared with $3.5-trillion six years ago.

In turn, the tsunami of ultra-cheap cash is inflating bubbles in the world’s bond and stock markets. On Feb 13th, hedge fund trader Jim Rogers commented, “The US-stock market is near its all-time highs because the Federal Reserve is printing staggering amounts of money. This is very artificial,’’ Rogers warns. And the willingness of the political puppets at the Fed and other central banks to keep buying hundreds of billions of dollars' worth of government bonds makes it easier for the ruling political elite to sustain the massive deficit spending that’s running up a record-breaking national debt. Rogers adds, “It’s a vicious cycle and it’s all insanity. No sound person in his sound mind would say, this is the way to run things. Of course, it’s going to lead to more inflation. But the government says we don’t have inflation. If you shop, you know that there’s inflation.’’

Global investors appear to be convinced that several more trillions worth of printed currencies will be flowing through the global pipeline in the years ahead. “It’s outrageous what they’re doing,” Jim Rogers, chairman of Rogers Holdings told CNBC television on Feb 8th. “The Federal Reserve is printing money as fast as they can, and the Bank of Japan says they’re going to print unlimited money. You know what the Federal Reserve said? ‘We’ll match you and we’ll print more money, too! “This is insane!” Regarding Fed chief Ben Bernanke, Rogers said, “He doesn’t understand economics, he doesn’t understand finance, he doesn’t understand currencies. All he understands is printing money,’” Rogers said.

As the chart above shows, - the Bank of Japan (BoJ) and the Fed have been flying under the radar, - engaged in a “competitive currency devaluation,” since the middle of 2009. Both central banks have increased their local money supply, and used the freshly printed monies to purchase vast quantities of mortgage or government debt. For its part, the BoJ has increased the size of the monetary base in circulation to a record ¥132-trillion, - that’s up nearly +44% from ¥92-trillion three years earlier. Likewise, the Fed’s money printing spree has increased the size of the high octane MZM money supply by $2.15-trillion, or +23% since May of 2010, in a race to the Foggy Bottom with a “beggar thy neighbor” – “currency war.”

Until recently, Japan was losing the tug-of-war over the yen’s exchange rate versus the US-dollar. The sheer size of the Fed’s massive QE onslaught overpowered the BoJ’s counterattack. The US-greenback tumbled to a 15-year low of ¥76 in the second half of 2011. The BoJ was forced to step-up its intervention efforts on two occasions, when it injected ¥13.5-trillion of liquidity ($175-billion) in July and October of 2011 into the Tokyo currency market, its biggest intervention effort since 2004. Still, the BoJ’s herculean efforts couldn’t lift US-dollar above ¥82 for most of 2012. Largely as a result of the chronically weak US$ /yen exchange rate, Japan’s exports fell -5.8% last year, and the country logged a record annual trade deficit of ¥7-trillion ($78-billion) in 2012. It was second consecutive annual trade deficit recorded by Japan that for decades racked up hefty surpluses, helping to finance its ballooning debt.

Little more than 20-years ago, Japan’s economy was being held out as an exemplary model destined to become the wave of the future for global capitalism. Yet on Feb 14th, Tokyo announced that its economy, the third largest in the world after China and the US, had contracted for a third straight quarter. Japan has endured its fifth recession over the past 15-years, hobbled by the unrelenting strength of the Japanese yen, which undercuts its export opportunities and corporate earnings that are repatriated from overseas. Companies listed on the Nikkei-225 index said their net income had plunged -31% on average, in the July-to-September quarter compared with a year earlier.

Former Prime Minister Noda acknowledged that the situation was “severe” and said the government would meet it with a “sense of crisis.” But his words only served to underscore the failure of successive governments to revive the Japanese economy since the collapse of the real estate and financial bubble at the beginning of the 1990’s. Noda announced he would dissolve the lower house of parliament on Nov 16th, triggering an election on December 16th that in turn, swept his Democratic Party of Japan from power.

Japan’s Liberal Democratic Party, (LDP) under the leadership of Shinzo Abe, reclaimed control of the government, and immediately began to exert maximum pressure on the BoJ to buy an “unlimited amount” of long-term government bonds (JGB’s), in order to weaken the yen, and thereby raise the cost of imported goods. The unlimited printing of yen would continue until Japan’s inflation rate rose to +2%. “We need to overcome the crisis that Japan is undergoing. We have promised to pull Japan out of deflation and correct a strong yen. The situation is severe. We need to do this. Quantitative easing by the BoJ will help to correct a too strong yen and it will push-up stock prices. That will help boost investment and lead to rises in wages, jobs and household revenues. We’d like to shorten the time needed for this to happen,” Abe said on Dec 16th. The Kyodo news agency said the LDP would draft an extra budget for 2012/13 worth up to 10-trillion yen and issue debt to pay for it.

A few days later, on Dec 20th, the BoJ agreed to expand its JGB-buying and lending program, by ¥10-trillion to ¥101-trillion ($1.1-trillion) by a unanimous vote, increasing its QE pipeline for the third time in the past four months. And even before the BoJ officially begins its Big-Bang QE counterattack sometime in April, Japan’s LDP chief has already managed to engineer a significant strengthening of the US$ to as high as 94-yen this week, simply through a bit of “Jawboning.” Koichi Hamada, a chief advisor to PM Shinzo Abe, helped to give the US$ a lift above the psychological barrier of ¥90 by saying on Jan 20th, “If the dollar goes above ¥110 there may be reason for worry, but at ¥100 yen or ¥95 yen, it’s OK,” he said.

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Gary Dorsch

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Mr Dorsch worked on the trading floor of the Chicago Mercantile Exchange for nine years as the chief Financial Futures Analyst for three clearing firms, Oppenheimer Rouse Futures Inc, GH Miller and Company, and a commodity fund at the LNS Financial Group. As a transactional broker for Charles Schwab's Global Investment Services department, Mr Dorsch handled thousands of customer trades in 45 stock exchanges around the world, including Australia, Canada, Japan, Hong Kong, the Euro zone, London, Toronto, South Africa, Mexico, and New Zealand, and Canadian oil trusts, ADRs and Exchange Traded Funds.

He wrote a weekly newsletter from 2000 thru September 2005 called,"Foreign Currency Trends" for Charles Schwab's Global Investment department, featuring inter-market technical analysis, to understand the dynamic inter relationships between the foreign exchange, global bond and stock markets, and key industrial commodities.

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