Oneupmanship via currency devaluations

This article appeared originally in Gulf News: link to original article

‘China devalues the yuan’ … sounds like an interesting headline? Well, no one has published it yet.

I discussed in a recent article how countries are indirectly devaluing their currencies by employing specific monetary policies. In this article, those policies will not be discussed in details.

Instead, I would rather skim through how much value was lost by selected countries where monetary policies were utilised towards devaluing their currencies. And for this to be benchmarked in a just way, all currencies will be measured against the dollar in a period extending between March 2014 and March 2015.

The British pound used to buy around $1.65 at the beginning of the period mentioned. That was the result of interest rate cuts. It could only buy around $1.47 in March 2015. The Japanese yen traded a bit short of $0.01 per yen in March 2014, with the value dropping to around $0.0083 per yen in March 2015.

Japan was the most aggressive in its Quantitative Easing (QE) programme to achieve its 2 per cent inflation target, and the yen devaluation was the result of it.

The next two currencies are the euro and the Swiss franc. Mentioning them in the same paragraph is for a very good reason, such as the implicit peg of the euro being equal to 1.2 Swiss francs. It all started with the European Central Bank contemplating launching its QE programme.

That was enough for the euro to start trading below the peg rate and for the Swiss National Bank (SNB) to call the peg off. It must be highlighted that before calling the peg off, the Swiss franc could buy a bit short of $1.15 in March 2014.

In December 2015, the Swiss franc could buy less than $1. With the Swiss franc losing value to encourage Switzerland’s exports, and with the weakening of the euro before launching the QE programme, the SNB would have incurred much higher costs than it already did to defend the peg.

And anyway, that would have only caused the franc to drop further. When the peg was called off, the franc soared to be traded at more than $1.15, higher than what it could buy in March 2014. As for the euro which could buy a bit short of $1.4 in March 2014, it could only buy some buy some $1.05 in March 2015. Perhaps one day, be at par with the dollar?

Before talking about the yuan, let’s first consider the Australian dollar due to the strong trading ties between the two countries. The Australian dollar traded at about $0.91 in March 2014 before dropping to around $0.76 in March 2015.

With the boom in China’s real estate market, the iron ore sector in Australia was booming. The result was better job figures in March which undermined the need for the Reserve Bank of Australia to cut interest rates further.

Now, the yuan. There is never a direct devaluation. As China’s trade surpluses provide it with ever increasing foreign currencies, the country invests those abroad with US Treasuries being the main benefited. And whenever yuan is printed, and to control its flow in the economy, China manipulates the required reserve ratio to ensure that not much of its currency is being circulated in the economy and to keep inflation at bay.

As a result, the reserve ratio peaked at above 21 per cent for some banks. China recently cut the rate by 1 per cent, injecting around 1.3 trillion yuan into its economy. The subsequent devaluation would ensure that all countries mentioned above do not gain exporting advantage against China.

The thought that I want to leave you with is: with a benchmark one-year loan rate of 5.35 per cent, 2.5 per cent being the one-year deposit rate, and a bit below 20 per cent the required reserve ratio, who got the upper hand in a further currency devaluation?