GLOBAL PERSPECTIVE: Currency wars front-line shifts to DC this weekend

Friday 8th October 2010

This weekend's annual meetings of the International Monetary Fund and the World Bank in Washingto, DC may prove to be far more exciting than usual. Mud is being thrown every which way in the foreign-exchange markets. And it's sticking too.

To recap:

- US lawmakers want the yuan to rise significantly faster; China, wary of stoking social unrest, says it's content with the status quo.

- In Japan, the central bank has drawn a line in the sand in its defense of the yen, signalling a willingness to intervene at any moment. It's keep speculative shorts on the sidelines.

- As for Europe, the European Central Bank is holding firm on plans to phase out its easy money program and the euro has surged ahead in response.

The end result though is a tough go for investors. Politics has been a wilder card in the strategy mix.

"I think the gloves may come off," James Melcher, founder and president of macro-global hedge fund Balestra Capital in New York, told Reuters.

He believes a currency war is already underway, but so far it is being conducted in a "gentlemanly" manner.

"As long as it is central bankers talking, they go back and forth and can usually work things out," Melcher said. However, the increasingly ‘political' take on what's happening in the currency markets is a concern.

This week has seen Chinese Premier Wen Jiabao tell the EU in as direct a response as he can make to mind its own business.

"If China saw social and economic turbulence, then it would be a disaster for the world," Jiabao said.

That didn't quell EU criticism.

"We consider that the euro is bearing a disproportionate burden in the adjustment of global exchange rates," European Commission spokesman Amadeu Altafaj told reporters.

The currency war, as coined by Brazil's Finance Minister Guido Mantega last week, is a reflection of the widening gaps between economic growth rates in different parts of the world.

In short, China is continuing to grow at an accelerated rate, while the West is treading water. There are signs of hope for the US economy - as in today's unexpected drop in jobless claims - but the outlook is hardly bright.

"Countries are looking to jump-start growth any way they can," Chris Rupkey, chief financial economist at Bank of Tokyo-Mitsubishi UFJ in New York, told Bloomberg News.

"The tried-and-true method of boosting trade and economic activity is to depreciate your currency, but not all countries can depreciate their currencies at the same time and this is leading to some friction," Rupkey said.

The reality is that it's a tough time to be a politician and/or a central banker. There are no easy fixes.

No one really expects any truce to be negotiated this weekend. There are two many conflicting agendas, none more so than the November mid-term elections in the US

Added to the mix today are signs that officials within the most important central bank - the US Federal Reserve - are increasingly divided over what to do next.

Dallas Fed President Richard Fisher, one of the most hawkish Fed officials, said the US central bank stands to gain little by pumping more cash into the US economy, and risks sending "confusing signals" to businesses.

Not to mention investors.

Businesswire.co.nz

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