Group of Seven governments are boosting their currency reserves as strategists at UBS AG and Bank of New York Mellon Corp. detect the potential for more intervention to quell exchange-rate swings in coming years.
G-7 finance ministers and central bankers meet in Washington late today for the first time since uniting to sell yen March 18, after avoiding such action for more than a decade.
They meet as Mansoor Mohi-uddin, UBS’s chief currency strategist, suggests the growing risk of currency sell-offs in the next decade means G-7 nations may increase reserves from about $200 billion in the euro area and $50 billion each in the U.S., U.K. and Canada. British and Canadian officials have signaled they will raise their stockpiles to meet commitments to the International Monetary Fund. Japan’s now top $1 trillion.
“The more currency volatility we experience, the more policy makers will seek the greater degree of comfort that comes from a higher level of foreign-exchange reserves,” Singapore-based Mohi-uddin said in a telephone interview. He calls greater swings in currencies and interventions “mega-trends” for investors to monitor.
The G-7 is composed of the U.S., Japan, Germany, France, U.K., Canada and Italy. Its finance chiefs, including U.S. Treasury Secretary Timothy F. Geithner and European Central Bank President Jean-Claude Trichet, will meet about 5:30 p.m. Washington time. They may keep to their recent practice of not making a statement, given that the G-20 meets tomorrow and is now deemed the main forum for international economic policy.
Four weeks ago, the G-7 agreed to counter a soaring yen after its rise to the highest level against the dollar since World War II threatened Japan’s ability to recover from the country’s record earthquake on March 11.
The intervention, the term used when governments buy or sell their currencies, was the first by the G-7 since its September 2000 effort to buoy the euro and suggested it still carries clout at a time when some investors question the G-20’s ability to find common ground. The effort worked, with the yen falling 10 percent versus the dollar from its peak of 76.25 on March 17.
‘Call for Cooperation’
Japanese Finance Minister Yoshihiko Noda told reporters in Washington that he will use today’s meeting to “call for cooperation when necessary, while closely monitoring the currency market.”
“Concerted interventions are an indispensable means of safeguarding our international monetary system,” French President Nicolas Sarkozy, who chairs the G-20 this year, said March 31, adding that they are an “instrument of the last resort.”
Any newfound willingness to enter exchange markets would mark a reversal from the G-7’s practice of the last decade, said Simon Derrick, chief currency strategist at BNY Mellon in London. Until the 2000s, interventions were more regular, with U.S. Treasury data showing that in 1995 alone it intervened on eight separate days.
That changed, with policy makers spending much of the past decade speaking of the need for exchange rates to “reflect economic fundamentals.” Derrick now senses a shift, citing an October 2008 occasion when G-7 policy makers also hinted they may tackle a soaring yen, and how the group didn’t criticize Japan’s solo intervention last September. Among other rich nations, Switzerland has also sought to restrain its franc.
“We’ve been quietly and slowly moving back to a world where a more activist approach to FX markets could become a little more of the norm,” Derrick said.
That may require greater ammunition, given the size of the $4-trillion-a-day foreign-exchange market. That’s the lesson learned by emerging markets, which followed the Asian financial crisis of the mid-1990s by boosting their reserves to protect against investors dumping their currencies.
Mohi-uddin at UBS, the second-largest foreign-exchange trader, calculates that global reserves now total more than $9 trillion, up from $2 trillion in 2000 and $1 trillion in 1990, with China’s alone standing at about $3 trillion.
U.K. Chancellor of the Exchequer George Osborne said March 23 that Britain has decided to “rebuild the U.K.’s foreign-currency reserves, which are at a historically low level,” while citing the need to meet higher IMF pledges as the main reason. His plan will involve 6 billion pounds ($9.8 billion) being added this year and a similar amount over each of the subsequent three years, he said.
Canada’s March 22 budget, which failed to pass before the country’s election, also featured an intention to increase its reserves by about $10 billion, with the IMF also cited as a rationale. Japan’s total has expanded about 18 percent since January 2007 and in October reached $1.06 trillion, the most since records began in April 2000.
Even if they bolster reserves, G-7 officials may remain wary of intervening because the size of the market has more than doubled since the late 1990s.
While he acknowledges some are increasing reserves to meet IMF pledges, Steve Barrow, a currency strategist at Standard Charted Bank Plc, said there won’t be a return to the practice of repeat interventions and currency accords.
The recent yen campaign was a reaction to a natural disaster and increased interventions would conflict with the G-7’s free-market ideology and calls for China to let the yuan gain faster, he said.
“It looks a bit unfair to say you need a more flexible exchange rate in China and then intervene like there’s no tomorrow in your own currency,” said Barrow.
Rather than stabilizing markets, last month’s yen sales also spurred instability, David Bloom, global head of currency strategy at HSBC Holdings Plc, told Bloomberg Television on April 5. That’s because investors can now sell the yen in the knowledge that the G-7 will likely offset any renewed rise, he said.
“They’ve created a little monster here,” said Bloom. “There’s nothing more a trader likes than a free trade. If my yen position goes wrong the G-7 will be there to protect me and if it goes right, happy days.”
As the G-20 is now the forum for coordinating global policy, the G-7’s March intervention may also have made some in the broader group “feel that they are not equal partners,” said Jim O’Neill, London-based chairman of Goldman Sachs Asset Management. The G-20 includes emerging markets such as China and India.
Officials may be moving to address such complaints, with German Finance Minister Wolfgang Schaeuble telling reporters on March 29 that exchange-rate discussions will migrate toward the G-20 from the G-7 by the end of the year. Given the unwieldy nature of the larger group, one option is for the topic to be overseen by a sub-group consisting of the G-7, Brazil, Russia, India and China.
“Needless to say, other G-20 countries are not too pleased about these possibilities,” said O’Neill.