Currencies

There has been a significant weakening in China’s exchange rate in recent days. Although the spot rate against the dollar has moved by only about 1.3 per cent, this is actually a large move by the standards of this managed exchange rate. Furthermore, the move is in the opposite direction to the strengthening trend seen in the exchange rate over the past three years.

This has triggered some pain among investors holding long renminbi “carry” trades, along with much debate in the foreign exchange market about what the Chinese authorities are planning to do next. Since China does not explain its internal or external monetary policy in a transparent manner that is intelligible to outsiders, there is much scope for misunderstanding its true intentions. The key question is whether the Chinese authorities are changing their commitment to a strong exchange rate and, if so, why? Read more >>

The financial shock which has recently hit the emerging markets stemmed in part from a period of severe stress in the Chinese money markets, which has now been brought under control. But the challenges facing China are chronic, not acute. And since the country is much more than “first among equals” in the Brics, a prolonged slowdown in its economy would keep all emerging market assets under pressure for a long while.

Although China is probably not facing anything as dramatic as a “Lehman” moment, it will need to spend several years tackling the combination of excess credit and over-investment that has followed the Rmb4tn ($652bn) stimulus package of 2008. Hailed at the time as a masterstroke, the package has caused a hangover that has now been implicitly acknowledged by the new administration under reformist Premier Li KeqiangRead more >>

Fiscal austerity, a concept which German Chancellor Merkel says meant nothing to her before the crisis, may have passed its heyday in the eurozone. This week, the European Commission has published its country-specific recommendations, containing fiscal plans for member states that are subject to excessive deficit procedures. These plans, which will form the basis for political discussion at the next Summit on 27-28 June, allow for greater flexibility in reaching budget targets for several countries, including France, Spain, the Netherlands and Portugal.

Furthermore, there have been rumblings in the German press suggesting that Berlin is beginning to recognise that fiscal consolidation without economic growth could prove to be a Pyrrhic victory. If true, this could mark the beginning of a new approach in the eurozone, helping the weakest region in the global economy to recover from a recession that has already dragged on far too long. So how real is the prospect of change? Read more >>

The sterling exchange rate has now declined by about 7 per cent this year, thus eliminating all of the rise which occurred when the euro crisis was in full flood in 2011-12. Investors are asking three main questions about the drop in sterling. When will it end? Will it succeed in boosting UK economic growth? And could it, conceivably, lead to a full blown sterling crisis? Read more >>

Ben Bernanke. Image by Getty.

The announcement of co-ordinated central bank action to boost foreign exchange swap lines on Wednesday has boosted market sentiment. The central banks have become extremely alarmed about the deterioration in the funding market for eurozone banks, and the consequent deleveraging of bank balance sheets which this is causing, and have decided to inject a great deal more liquidity into the system to bring this back under control. The injection of additional dollar liquidity which the Fed will undertake through its currency swaps with the ECB could potentially involve a very large increase in the Fed’s balance sheet, so it is worth understanding exactly what this initiative involves. Read more >>

It has suddenly become respectable to ask the question: what would happen if the euro broke up? Last week’s rise in German bond yields signals that a euro break-up is being taken more seriously by investors. I am told that London law firms are allocating large amounts of time to examining the validity, following a break-up, of cross-border contracts written in euros. And, to judge from my own inbox, asset managers are beginning to ask about the economics of how it could occur. Read more >>

The decision of the Swiss National Bank to set a limit on the strength of the Swiss franc so that it cannot trade below a minimum rate of CHF 1.20 against the euro is one of the most dramatic interventions seen in the foreign exchange markets for many years. The Swiss economy may only account for 0.8 per cent of global gross domestic product, but its currency and the influence of its central bank far outweigh its economic size. Read more >>

The sudden surge in the value of the yen to a new all-time high against the dollar is a new headache for the Japanese authorities, just at the moment when they did not need one. In the aftermath of the Kobe earthquake in 1995, the yen temporarily surged by almost 20 per cent against the dollar, and a repeat of that episode now would greatly add to deflationary pressures in the economy. Fortunately, however, the Bank of Japan should be in a position to stop this from happening, and other G7 economies will hopefully realise that this is one area where they can really help Japan. There may not be many occasions where co-ordinated foreign exchange intervention is the right thing to do, but this is certainly one of them. Read more >>

US Treasury Secretary Tim Geithner has written to his G20 colleagues suggesting that they should adopt a new approach to managing external trade imbalances. Specifically, he wants the G20 to agree to a limit on their current account surpluses and deficits over a period of years, and also to correct these imbalances if they seem likely to drift away from the agreed targets. This is a good idea, because multilateral action on global imbalances would be vastly preferable to a disorderly bilateral dispute between the US and China. But the Geithner plan, as currently drafted, is fraught with difficulties. Read more >>

Martin Wolf argues in his column this morning that the world’s two superpowers are in conflict over the dollar/yuan exchange rate, and that “when such elephants fight, bystanders are likely to be trampled”. Yet in preparations for the G20 summit in Korea in November, there is no sign that any of the other participating countries – especially the Europeans – want to join the US in talking specifically about the question of yuan overvaluation. According to reports, the US is likely to be “a posse of one” on this question. Read more >>