Satyajit Das: Why relying on devaluation to attain prosperity is a flawed policy

Midweek View: Currency conflicts are merely skirmishes in the broader economic wars between nations and a shift to isolationism

Financial markets are now dancing to a new version of The Weather Girls' hit single: "It's raining yen!" Japan under Prime Minister Shinzo Abe has opened a new front in the "currency wars", a term coined by the Brazilian Finance Minister Guido Mantega in 2010. The US, UK and Switzerland are all already enjoined, with Europe likely to take up arms shortly. Nations which constitute around 70 per cent of world output are "at war", pursuing policies which entail devaluation and currency debasement.

But currency conflicts are merely skirmishes in the broader economic wars between nations. In a shift to economic isolationism, all nations want to maximise their share of limited economic growth and shift the burden of financial adjustment on to others. Manipulation of currencies as well as overt and covert trade restrictions, procurement policies favouring national suppliers, preferential financing and industry assistance policies are part of this process.

Most developed nations now have adopted a similar set of policies to deal with their own low economic growth, unemployment and overhangs of high levels of government and consumer debt. Central banks are increasingly deploying innovative monetary policies such as zero interest rates, quantitative easing and outright debt monetisation to try to engineer economic recovery.

Artificially low interest rates reduce the cost of servicing debt, allowing higher levels of borrowings to be sustained in the short run. Low rates and quantitative easing measures help devalue the currency, facilitating a transfer of wealth from foreign savers as the value of a country's securities denominated in the local currency falls in foreign currency terms.

A weaker currency boosts exports, driven by cheaper prices. Stronger export-led growth and lower unemployment assists in reducing trade and budget deficits.

The policies have significant costs, including increasing import prices, increasing the cost of servicing foreign currency debt, inflation and increasing government debt levels.

Eventually, when QE programs are discontinued, interest rates may increase, compounding the problems. In extreme cases, the policies can destroy the acceptability of a currency.

The policies also force the cost of economic adjustment on to other often smaller nations, especially emerging countries, via appreciation of their currency, destabilising capital inflows and inflationary pressures. Given that emerging markets have underpinned tepid global economic growth, this risks truncating any recovery in developed nations.

Actions to weaken currencies risk economic retaliation. Affected nations could intervene in currency markets, try to fix its exchange rate (as Switzerland has done against the euro), lower interest rates, undertake competitive QE programs, implement capital controls or shift objectives to targeting nominal growth or unemployment (as the US has done).

Ultimately, a policy of devaluation to attain prosperity is flawed, especially when all major nations adopt similar policies. Everybody cannot have the cheapest currency.

Currency wars are not conflicts between equals. In the worst case, the US and Europe have the economic size and scale to retreat into near closed economies, surviving and retooling its economy behind explicit or implicit trade barriers. This option is unavailable to smaller nations requiring access to external markets for its products and foreign capital.

Smaller countries are unable to bear such costs of defending themselves in the currency wars. For example, the Swiss National Bank's direct intervention in 2010 to attempt to maintain the euro at 1.50 Swiss francs resulted in losses totalling Sfr27bn (£19bn).

New Zealand's Finance Minister Bill English admitted: "To influence the exchange rate you need a couple of hundred billion US in the bank so they take you seriously. We'd be out in the war zone with a peashooter."

Asked about a potential alliance with the Vatican, Stalin allegedly asked "how many divisions does the Pope have"? Major economies possess superior weapons of financial destruction. British statesman Lord Palmerston noted: "Nations have no permanent friends or allies, they only have permanent interests".

To expect nations not to use fiscal and monetary policy to manipulate currencies is disingenuous. Desperate policy makers are now using every available policy tool to serve individual national interests.

Satyajit Das is a former banker and author of 'Extreme Money' and 'Traders, Guns & Money'

Start your day with The Independent, sign up for daily news emails
ebooks
ebooksA special investigation by Andy McSmith
  • Get to the point
Latest stories from i100
Have you tried new the Independent Digital Edition apps?
Independent Dating
and  

By clicking 'Search' you
are agreeing to our
Terms of Use.

iJobs Job Widget
iJobs Money & Business

Ashdown Group: Marketing Manager - B2B, Corporate - City, London

£45000 - £50000 per annum + benefits : Ashdown Group: A highly successful, glo...

Neil Pavier: Commercial Analyst

£50,000 - £55,000: Neil Pavier: Are you a professionally qualified commercial ...

Loren Hughes: Financial Accountant

£45,000 - £55,000: Loren Hughes: Are you looking for a new opportunity that wi...

Sheridan Maine: Finance Analyst

Circa £45,000-£50,000 + benefits: Sheridan Maine: Are you a newly qualified ac...

Day In a Page

General Election 2015: The masterminds behind the scenes

The masterminds behind the election

How do you get your party leader to embrace a message and then stick to it? By employing these people
Machine Gun America: The amusement park where teenagers go to shoot a huge range of automatic weapons

Machine Gun America

The amusement park where teenagers go to shoot a huge range of automatic weapons
The ethics of pet food: Why are we are so selective in how we show animals our love?

The ethics of pet food

Why are we are so selective in how we show animals our love?
How Tansy Davies turned 9/11 into her opera 'Between Worlds'

How a composer turned 9/11 into her opera 'Between Worlds'

Tansy Davies makes her operatic debut with a work about the attack on the Twin Towers. Despite the topic, she says it is a life-affirming piece
11 best bedside tables

11 best bedside tables

It could be the first thing you see in the morning, so make it work for you. We find night stands, tables and cabinets to wake up to
Italy vs England player ratings: Did Andros Townsend's goal see him beat Harry Kane and Wayne Rooney to top marks?

Italy vs England player ratings

Did Townsend's goal see him beat Kane and Rooney to top marks?
Danny Higginbotham: An underdog's tale of making the most of it

An underdog's tale of making the most of it

Danny Higginbotham on being let go by Manchester United, annoying Gordon Strachan, utilising his talents to the full at Stoke and plunging into the world of analysis
Audley Harrison's abusers forget the debt he's due, but Errol Christie will always remember what he owes the police

Steve Bunce: Inside Boxing

Audley Harrison's abusers forget the debt he's due, but Errol Christie will always remember what he owes the police
No postcode? No vote

Floating voters

How living on a houseboat meant I didn't officially 'exist'
Louis Theroux's affable Englishman routine begins to wear thin

By Reason of Insanity

Louis Theroux's affable Englishman routine begins to wear thin
Power dressing is back – but no shoulderpads!

Power dressing is back

But banish all thoughts of Eighties shoulderpads
Spanish stone-age cave paintings 'under threat' after being re-opened to the public

Spanish stone-age cave paintings in Altamira 'under threat'

Caves were re-opened to the public
'I was the bookies’ favourite to be first to leave the Cabinet'

Vince Cable interview

'I was the bookies’ favourite to be first to leave the Cabinet'
Election 2015: How many of the Government's coalition agreement promises have been kept?

Promises, promises

But how many coalition agreement pledges have been kept?
The Gaza fisherman who built his own reef - and was shot dead there by an Israeli gunboat

The death of a Gaza fisherman

He built his own reef, and was fatally shot there by an Israeli gunboat