Turmoil rocks the Japanese boat

Question: Is it a dollar problem or a mark problem? Answer: both.

But since the people who are most worried by the turmoil on the exchanges are neither the Americans nor the Germans, but the Japanese, do not expect an early solution. There is talk of an emergency Group of Seven meeting to discuss currencies, but a meeting that did not produce a credible mix of policies to shift investor demand would be worse than no meeting at all, just as the ill-judged intervention on the exchanges in the past few days by the central banks has done more harm than good.

To say that is not to pretend that the present situation is satisfactory. The tension between the dollar and the mark has claimed two obvious victims, the Spanish peseta and the Portuguese escudo. There will be more. The market gossip, for what it is worth, is not only suggesting that there will have to be a further devaluation of the peseta within the next few months but that the French franc will also be vulnerable as soon as the presidential elections are over.

A little added spice to this is given by the judicious placing of a story that the Spaniards had really wanted a larger devaluation, of 10 per cent, but were discouraged by fears that this might lead to even more pressure on the franc.

None of this would matter if there were a genuine long-term case for a mark revaluation or indeed a dollar devaluation. If anything the reverse is true. This year the German economy is moving into a quite serious current account deficit, which if it matches the Goldman Sachs forecast of $66bn (£41.25bn), will be almost exactly the same size in relation to GDP as that of the US. Unlike the US dollar, the mark is already overvalued on purchasing power parity so there is no cushion there. At some stage, though it seems to be taking an inordinately long time to do so, purchasing power parity will pull the mark (and for that matter the yen) down.

But none of this carries much conviction at the moment. The mood of the markets is set by a combination of emotion and interest-rate expectations. There is one rational reason why in the long term the mark should be the recipient of the "flight into quality": that it has the second largest net asset position after Japan, while the US is the world's largest debtor. But you hear very little of that in market discussion. The chatter there is all about the timing of the forthcoming German interest rate rise, or on the other side, the mismanagement by the Federal Reserve of its interest rate policy. In any case the German net asset position, while still positive, is rapidly being eroded by the persistent current account deficits since unification.

The dollar-bashing will continue because once a market trend is set, it is quite hard to engineer a turning point. Markets overshoot, but the fact that the exchanges have already overshot does not mean that they will not overshoot further. Rational discussion is not relevant: what we are seeing is a speculative excess and at times like this all that matters is market mood.

My expectation now (and by way of warning I should say I have been wrong about the dollar) is that this swing into the mark has perhaps three months to run. The climb of the mark (or the fall of the dollar) will not be a straight-line affair, for there will be pauses for regrouping on the way. But until the currencies are so far out of line that the rates have become ridiculous, the circumstances for a reversal will not be there. Concerted intervention, quite a possibility if there is a special G7 meeting to discuss currencies, will be ineffective until the markets accept that the natural turning point has been reached.

For that to happen the chief players, the US and Germany, need to be frightened about the effects of currency instability. In the case of Germany, exporters need to be priced out of markets by the high mark, and the recovery threatened. In the case of the US, the fall of the dollar needs to proceed until it starts to push up inflation to a much more serious extent than it has. At that stage the necessary mix of policies, which would include further rises in interest rates in the US, would be put in place. There may, meanwhile, have to be one of those speculative blow-offs - the time when everyone accepts that the markets are absurd but remains in thrall to them - before the turning point is reached.

What happens to the rest of the world while this happens? The country with the most serious problem is Japan, for the further the yen strengthens the greater the pressure on the Japanese corporate sector. But now a recovery of sorts is in place, the danger is perhaps less than it was even six months ago.

In Europe the climb of the mark will continue to disrupt cross-border trade as well as highlighting the cultural diversity of the Continent: some parts naturally seem to have hard currencies, others soft. Short- term interest rates in Europe will have to adjust to take this into account, just as the bond markets have acknowledged. Politicians can argue about the implications for a single currency, but that is hardly an immediate concern of investors.

And Britain? So far the pound has been reasonably well insulated, moving sharply down against the mark but climbing against the dollar, so that its trade-weighted value has remained within the 92-88 range. But it is at the bottom of that range and it is not hard to see circumstances where sterling weakness would feed through into higher inflation. The next rise in interest rates has been brought forward by the events of the past few days. The problem arises when domestic and international call for different interest rate policy. There is just enough of a case for further tightening on domestic grounds to underpin a move triggered by sterling weakness. But expect an uncomfortable few months.

Start your day with The Independent, sign up for daily news emails
ebooksAn introduction to the ground rules of British democracy
Latest stories from i100
Have you tried new the Independent Digital Edition apps?
Independent Dating

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

iJobs Job Widget
iJobs Money & Business

Recruitment Genius: Sales Executive / Foreign Exchange Dealer - OTE £40,000+

£16000 - £40000 per annum: Recruitment Genius: A Foreign Exchange Dealer is re...

SThree: Experienced Recruitment Consultant

£20000 - £40000 per annum + OTE + Incentives + Benefits: SThree: Established f...

SThree: Trainee Recruitment Consultant

£20000 - £25000 per annum + OTE 40/45k + INCENTIVES + BENEFITS: SThree: The su...

Recruitment Genius: Collections Agent

£14000 - £16000 per annum: Recruitment Genius: This company was established in...

Day In a Page

The long walk west: they fled war in Syria, only to get held up in Hungary – now hundreds of refugees have set off on foot for Austria

They fled war in Syria...

...only to get stuck and sidetracked in Hungary
From The Prisoner to Mad Men, elaborate title sequences are one of the keys to a great TV series

Title sequences: From The Prisoner to Mad Men

Elaborate title sequences are one of the keys to a great TV series. But why does the art form have such a chequered history?
Giorgio Armani Beauty's fabric-inspired foundations: Get back to basics this autumn

Giorgio Armani Beauty's foundations

Sumptuous fabrics meet luscious cosmetics for this elegant look
From stowaways to Operation Stack: Life in a transcontinental lorry cab

Life from the inside of a trucker's cab

From stowaways to Operation Stack, it's a challenging time to be a trucker heading to and from the Continent
Kelis interview: The songwriter and sauce-maker on cooking for Pharrell and crying over potatoes

Kelis interview

The singer and sauce-maker on cooking for Pharrell
Refugee crisis: David Cameron lowered the flag for the dead king of Saudi Arabia - will he do the same honour for little Aylan Kurdi?

Cameron lowered the flag for the dead king of Saudi Arabia...

But will he do the same honour for little Aylan Kurdi, asks Robert Fisk
Our leaders lack courage in this refugee crisis. We are shamed by our European neighbours

Our leaders lack courage in this refugee crisis. We are shamed by our European neighbours

Humanity must be at the heart of politics, says Jeremy Corbyn
Joe Biden's 'tease tour': Could the US Vice-President be testing the water for a presidential run?

Joe Biden's 'tease tour'

Could the US Vice-President be testing the water for a presidential run?
Britain's 24-hour culture: With the 'leisured society' a distant dream we're working longer and less regular hours than ever

Britain's 24-hour culture

With the 'leisured society' a distant dream we're working longer and less regular hours than ever
Diplomacy board game: Treachery is the way to win - which makes it just like the real thing

The addictive nature of Diplomacy

Bullying, betrayal, aggression – it may be just a board game, but the family that plays Diplomacy may never look at each other in the same way again
Lady Chatterley's Lover: Racy underwear for fans of DH Lawrence's equally racy tome

Fashion: Ooh, Lady Chatterley!

Take inspiration from DH Lawrence's racy tome with equally racy underwear
8 best children's clocks

Tick-tock: 8 best children's clocks

Whether you’re teaching them to tell the time or putting the finishing touches to a nursery, there’s a ticker for that
Charlie Austin: Queens Park Rangers striker says ‘If the move is not right, I’m not going’

Charlie Austin: ‘If the move is not right, I’m not going’

After hitting 18 goals in the Premier League last season, the QPR striker was the great non-deal of transfer deadline day. But he says he'd preferred another shot at promotion
Isis profits from destruction of antiquities by selling relics to dealers - and then blowing up the buildings they come from to conceal the evidence of looting

How Isis profits from destruction of antiquities

Robert Fisk on the terrorist group's manipulation of the market to increase the price of artefacts
Labour leadership: Andy Burnham urges Jeremy Corbyn voters to think again in last-minute plea

'If we lose touch we’ll end up with two decades of the Tories'

In an exclusive interview, Andy Burnham urges Jeremy Corbyn voters to think again in last-minute plea