(Corrects attribution on “monetary tsunami” quotation.)
The world is plunging into a currency war, or so say finance ministers in developing economies from Russia to Thailand. This time around it’s not the U.S. that’s taking the heat. Nor is it China. It’s Japan, whose currency is off nearly 13 percent against the dollar from a late-September high. “Japan is weakening the yen, and other countries may follow,” Alexei Ulyukayev, first deputy chairman of Russia’s central bank, warned on Jan. 16. On Jan. 22, the Bank of Japan set a new 2 percent annual inflation target and pledged to expand its purchases of bonds and other assets next year to reach its goal. Both moves are likely to weaken the yen further in the long run, although the currency gained short-term strength because the BOJ won’t expand bond-buying as soon as traders expected. Nevertheless, other governments are more alarmed than before. A spokesman for German Chancellor Angela Merkel’s party said on Jan. 22 that Japan’s actions risked retaliation by other Group of 20 nations.
“Currency war” is ministerial parlance for lowering the value of your nation’s currency so your exports are cheaper and your imports more expensive. That helps domestic growth. It can also drive up inflation—which in the case of deflationary Japan is not such a bad thing. Critics call it a beggar-thy-neighbor policy because trade is a zero-sum game: If one country racks up bigger surpluses, another must run bigger deficits. Competitive devaluation is even blamed by some economists for contributing to the Great Depression.
Emerging market economies are especially agitated by Japan’s moves. With interest rates near zero in the U.S., investors have piled into Turkey, Thailand, South Korea, and the Philippines in search of better bond returns. That’s driving their currencies up, and a weaker yen amplifies that trend. Thai Finance Minister Kittiratt Na-Ranong says the baht’s exchange rate is “not at a good level.” South Korean Vice Finance Minister Shin Je Yoon says Korea wants the G-20 talks in Moscow this February to focus on the effects of monetary easing in the U.S., Europe, and Japan.
Yet in a global economy desperate for growth, Japan has its defenders. “If these are currency wars, we need more of it,” says Barry Eichengreen, an economist at the University of California at Berkeley. The yen’s decline is primarily the result of legitimate actions by Japan to rev up its domestic economy, argues Timothy Condon, the Singapore-based research chief of ING Investment Management Asia. “The world needs faster spending growth,” and Shinzo Abe, Japan’s new prime minister, “gets” that, Condon writes in an e-mail.
The debate over Japan shows that while any move that lowers a currency draws complaints of mercantilism, there may be times when it’s welcome. A modestly weaker yen that’s part of a broader push to reignite growth may be a greater good for the world in the long run than the hit Japan’s trading partners take in the short term. “The best of all worlds would be if all central banks agreed to give more support for growth,” Eichengreen says. “But uncoordinated action is better than no action at all.”
This is where the rules of war get fuzzy. Some of Japan’s recent actions are aimed at jump-starting the economy, the kind of things other countries would do were they in Japan’s place. Abe, in office for just a month, said on Jan. 22 that he has “strong expectations for the Bank of Japan to achieve its 2 percent inflation target at the earliest possible date.” Inflation could induce companies to invest and consumers to spend.
Likewise in the U.S., Federal Reserve Chairman Ben Bernanke defends his bank’s right to pursue ultra-easy monetary policy—for domestic purposes—against objections from the likes of Brazilian President Dilma Rousseff, who has warned repeatedly that the Fed’s actions have unleashed a “monetary tsunami” on the world. Jens Nordvig, global head of currency strategy for Nomura Securities International, disagrees. “I don’t think it’s fair to call that part of a currency war,” he says, referring to the Fed’s actions. If the Fed succeeds, “a better growth trajectory in the U.S. will benefit America’s trading partners.”
Where Abe does violate norms is in urging the BOJ to buy foreign bonds with yen expressly to lower the yen’s value. With the strong yen making Japanese exports more expensive, Abe’s desire to lower the currency’s value is understandable. Yet countries with trade deficits usually have the best case for weakening their currencies, while Japan is still running a current account surplus (2 percent of GDP). And its foreign currency purchases are being planned without international support. That contrasts with the coordinated moves of 1985, when U.S. trading partners agreed to weaken the dollar.
Japan may be listening to its critics. Koichi Hamada, an Abe adviser, told reporters on Jan. 20 that policymakers are “working hard to raise prices and influence the yen.” But, he added, “if it goes too far, it should be stopped.” Economy Minister Akira Amari talked about the risk of the yen getting too weak, although he later said his comments were misinterpreted.
It’s popular to blame countries with falling currencies for beggaring their neighbors. The reality is more complex.