Contrived currency devaluation : Alex Cheema IFA

I’ve mentioned ‘currency wars’ in a previous post which I will talk about in today’s blog. I think it important to outline what contrived currency depreciation means for countries and why a country would want to do it & how it affects all of us:

Countries such as Japan, that have a huge amount debt and which are unable to generate growth through normal measures such as monetary policy easing (low interest rate environment, etc.), have resorted to further measures like Quantitative Easing (QE) on a massive scale to keep their economy in it’s ‘bubble’.

QE can take a number of forms but in essence it is the provision of liquidity by way of increasing the volume of a particular currency in circulation (money printing). The effect this has is to devalue that currency, as with any supply and demand relationship, if there is a flood of any one product onto the market its value decreases & this is the same with currencies.

Devaluation of a country’s own currency can be advantageous if it has borrowed a large amount of its own currency from another country with its own separate domestic currency; The two currencies therefore have a reliance on one another. Excessive QE weakens the value of borrower’s currency against the value of the lenders domestic currency. The implications of this are that the borrower pays back less of its debt. Good for the borrower, bad for the lender.

As you can imagine no lender wants this but every borrower wants to do it. Because our economy is globalized and because most countries borrow or lend to each other to a lesser or greater extent and also because of the huge amount of debt in world these days; there is a real fear that one country will enter into more aggressive QE program than another, hence leaving other countries / lenders out of pocket: ‘Currency wars’.

The key to managing this is to try to agree for one country to undertake the same amount of QE as the next .. a tricky balancing act. Reference ft.com article pasted below.

The other key issue is that if Japan were to stop its aggressive QE program it’s economy would most likely go into free fall potentially causing a domino effect .. so does this mean that QE is now a necessity? The answer is yes. For more info. refer to my first blog about the market and QE, the analogy being, drug addict and drug.

http://www.alexcheema.com/a-grim-global-outlook-but-make-hay-while-the-sun-shines/

Few financial advisers will talk about these issues, 1/ because they don’t understand them, 2/ if they do understand some of the issues we face then they don’t want to scare people by telling them.

My philosophy is to try to educate & inform my clients so that we are in a position to react to the should we need to. With our Wealth Manager hats on, our objective should be to grow money in ‘real terms’ (above the rate of inflation) & perhaps more importantly in this day and age, to protect client money.

To summarize, markets will continue to do well for so long as liquidity measures are being used aggressively thus giving confidence to the markets which is excellent for our pensions funds and personal portfolios at the moment, but, understanding the global backdrop is absolutely key to protecting our profits into retirement.

In future posts I will be focusing more on personal & business finance issues to help my readers with the everyday issues we all face. I hope you enjoyed the blog, if you have any questions feel free to get in touch.

By Alex Cheema, BSc (Hons), MSc, DipPFS

G7 reaffirms commitment on currency depreciation

By Chris Giles in Aylesbury

The world’s leading finance ministers gave their tacit approval to the soaring US dollar and plunging Japanese yen at the weekend, but international divisions over economic strategy and European banking union remained unresolved.

After an informal gathering of the Group of Seven rich economies outside London, participants reaffirmed their commitment not to use economic policy to seek weaker currencies and did not conclude " href="http://www.ft.com/intl/topics/places/Japan">Japan was breaking that pact yet.

In the meeting with no concluding statement, participants said they were reassured by Japan that its revolutionary new economic strategy was not targeting a weaker yen although there was concern expressed over the level of liquidity flowing around the global economy.

In other areas of international economic debate, however, there was little evidence that deep divisions over strategy had healed. Germany and the US remained at loggerheads over the need for Berlin to work harder to boost domestic growth.

Germany also continues to reject European ambitions for it to sign up quickly to a new resolution authority to wind up failing banks in the eurozone. In recent days, the plunging yen and soaring dollar, had prompted speculation that ministers might seek to stop recent sharp exchange rate gyrations.

On Friday, the dollar rose 0.6 per cent against the main trading partners of the US and hit a five-year high against the yen. The yen has now fallen nearly 30 per cent against the dollar since November.

While taking a close interest in Japan, the G7 participants agreed that all members were sticking to their commitment struck in February to keep economic policy, “oriented towards meeting our respective domestic objectives using domestic instruments, and that we will not target exchange rates”.

Speaking about Japan’s policy stance, a senior US Treasury official said after the meeting: “That conversation was good”.

“The Japanese authorities went into some detail on what kind of evidence they were seeing on how [their policies] were boosting domestic demand,” the official added, although the US has made it clear it is watching the yen closely.

US officials stress the need for Japan to meet the G7’s commitment to avoid excessive movements in currencies.

Taro Aso, Japan’s finance minister, told journalists that the G7 had levelled no criticism at the country for its new monetary policy strategy, although Wolfgang Schäuble, Germany’s finance minister, warned about the dangers of “the relatively high levels of liquidity” flowing around the global economy.

Divisions remained in other areas of negotiation between G7 countries, however.

This article is taken from the FT.com, if you wish to subscribe please follow the link, ref. http://link.ft.com/r/2SRI11/ A5JG5U/S3GN4Z/HY4OLU/7Z3KHI/ 50/h?a1=2013&a2=5&a3=11

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From the Blog

• Contrived currency devaluation
• Renminbi strengthening / Dollar weakening continues
• Further global contagion or strategic positioning?

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