Jack Lew’s first act once he becomes U.S. Treasury secretary will be to tell a lie.
On Day One as Timothy Geithner’s successor, Lew is bound to say “I support a strong dollar” to reassure markets that there will be no change in long-standing U.S. policy. Nothing could be further from the truth, though, as the yen trades at 2 1/2-year lows and the world considers a response to Japan’s blitz on money markets.
Get ready for the Currency Wars 2.0. In a world in which growth is harder to come by, policy making verges on becoming a zero-sum game. Officials in the U.S. and China were caught flatfooted by how quickly Japanese Prime Minister Shinzo Abe turned the tables in currency markets with a few vague pledges of change. Rest assured that some big responses are on the way.
“Japan has restarted the currency war by its open policy goal of a weaker yen, which has surprised everyone by its success,” says Simon Grose-Hodge, head of investment strategy for South Asia at LGT Group in Singapore. “No country wants to be priced out of an already challenging export environment.”
Take China’s incoming President Xi Jinping, who is walking into a positively treacherous situation in Beijing. He must act fast to rein in corruption, grapple with an unruly local media and tackle the pollution that obscures the sun and threatens public health. The last thing Xi needs is a plunge in exports as exchange rates move against him. The same goes for South Korean President-elect Park Geun Hye. Expect policy makers throughout Asia to act, too.
Benigno Aquino, the president of the Philippines, says his government may borrow dollars onshore to temper the peso’s strength. Thai Finance Minister Kittiratt Na-Ranong is getting an earful from exporters and says he’s reviewing policy changes. The sense of urgency is rising as Akira Amari, Japan’s economic minister, joins the Bank of Japan in a campaign to accelerate the yen’s decline.
European officials are none too happy, as evidenced by Luxembourg Prime Minister Jean-Claude Juncker calling the euro “dangerously high.” It’s a reminder of how bizarre the region’s crisis has been. Although Europe has endured a triumvirate of debacles -- debt, banking and politics -- the euro hasn’t been a source of trouble. That is, unless you consider how fallout from the yen might hurt exports. Swiss and Russian officials also are sounding the alarm.
The U.S. is wary, as well. A key goal for President Barack Obama’s second term is to resurrect the nation’s manufacturing sector. Nothing would help that process more than a weaker dollar, and the Federal Reserve’s ever-expanding balance sheet may limit the currency’s gains.
Japan can’t expect to sustain the yen’s decline for long unless the Group of Seven nations backs it. The strength of the Japanese currency, after all, was always more about the dollar and the euro being less appealing in relative terms than the yen. And now, as optimists seek Japanese assets amid hopes that Abe will end deflation, you have to figure that a yen rebound is inevitable.
That’s why traders are looking for a material change in Japanese policy. Will they get it? Buying more foreign debt might help, but the purchases would have to be huge to matter. Japan would need to add significantly to its $1.2 trillion stockpile of currency reserves, something officials in Tokyo may be reluctant to do. Abe could try his hand at capital controls, but that could unnerve markets and boost government-bond yields.
Abe has managed to change the calculus in global markets. Historians of past currency conflicts probably shouldn’t draw any lessons from the 15 months before March 2004, when Japan spent 35.2 trillion yen ($391 billion) -- more than Taiwan’s annual gross domestic product -- in a failed attempt to weaken the yen. Abe has been more effective without spending a single yen to intervene in markets. Hence concerns about the huge currency battles in store for 2013.
Ignore the official line that governments know better. The idea of mutually assured destruction, once confined to nuclear annihilation, applies to currency markets too. Just consider International Monetary Fund Managing Director Christine Lagarde, who last week said the threat of retaliation should forestall new conflicts over competitive devaluations.
That sure sounds like wishful thinking. Earlier this month, Japanese Finance Minister Taro Aso took umbrage at overseas complaints over the course Japan is steering. Other countries have “no right to lecture” officials in Tokyo, he said. One measure of rising tension: the jump in central-bank chatter about exchange rates since Japan’s leadership change last month.
The other risk is a surge in volatility. Such beggar-thy-neighbor policies can work when a few economies pursue them. The year ahead will see everyone simultaneously looking to export their way out of trouble. At best, this global race to the bottom will fail; at worst, it will lead to market swings that sap confidence and stifle growth.
If Lew really is sincere about wanting a strong dollar, he will surely get it while everyone else heads the other way.
(William Pesek is a Bloomberg View columnist. The opinions expressed are his own.)
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