Liam Dann 's Opinion

Business editor of the NZ Herald

Liam Dann: Currency war a dangerous game

42 comments
G20 warns struggling governments to refrain from competitive devaluation and resist protectionism.

The threat of a currency war remains real, despite the best efforts of IMF leader Christine Lagarde to play down the rhetoric and calm nerves. Photo / AP
The threat of a currency war remains real, despite the best efforts of IMF leader Christine Lagarde to play down the rhetoric and calm nerves. Photo / AP

Currency war averted then? There seems to have been plenty of resolve among the nations of the G20 as they issued a joint statement calling for governments to "refrain from competitive devaluation" and "resist all forms of protectionism and keep our markets open".

Of course a statement agreed at a diplomatic talkfest doesn't remove the threat of a currency war any more than the Munich agreement headed off World War II.

The aggressor in that scenario was a nation that had lost the economically devastating currency war of the 1930s and had turned in desperation to a maniacally militant leader.

We should be thankful we live in less volatile political times.

But what governments say and what they do are still very different propositions.

The threat remains real, despite the best efforts of IMF leader Christine Lagarde to play down the rhetoric and calm nerves.

There is still a currency cold war and there is still the chance it could flare up again at any point. These are tense times as the main powers size up the pecking order in the post-GFC world.

Countries have been printing money since the start of the global financial crisis but the latest moves by the Japanese have sparked concern that the motives for such moves are now less about stimulating the local economy and more about competitive devaluation of the currency.

The statement from the G20 at least confirms some consensus: that an escalation in currency intervention would do nothing to aid the global economic recovery.

Printing money creates inflation and damages economies. Countries do it when feel they have no options left or, as we saw in 2008, when they are on the brink of catastrophe. And they should be doing it to stimulate their domestic economy by freeing up capital. They shouldn't be doing it specifically to drive down their currency. That is the path to trade war.

Japan is particularly desperate having been economically stalled for far longer than the five post-GFC years that have killed growth in the rest of the developed world.

It seems unfair to single them out given the vast scale of quantitative easing in the US and Europe - and China's state control of its currency.

The winners in a currency war can only be those economies big enough to weather the side-effects. And even then the victory may be marginal.

Currency is a relative measure of wealth and right now everyone thinks their currency is overvalued and their exporters need a break.

But everybody can't devalue at once or nothing changes on currency markets. The damage is done domestically as loose money supply causes inflation to bite and internationally where it distorts the prospect of free and fair trade.

As the money supply is inflated relative to value of goods, keeping a handle on real value becomes more difficult and confidence in trade is eroded.

New Zealand is a big beneficiary of the free trade and a stable global market - a return to protectionism would be a disaster for us.

It is ironic that calls for neutrality and non-engagement are being dismissed as weak and lily-livered by those on the normally peace-loving left of the political spectrum.

Of course it is not from any moral standpoint that New Zealand engagement in currency wars would be ill-advised.

It is pragmatism. We are just too small to play the printing money game.

The amount of money New Zealand would need to print in order to make a serious dent in the exchange rate is so large relative to the size of our economy that we would suffer the maximum negative side-effects for the minimum gain.

It is conceivable that New Zealand should be able to print as a last line of defence. But are we at that point?

Commodity prices are rebounding and taking the sting off the currency spike for a big section of exporters.

Against the US dollar we are still some way off record highs, even if the kiwi is looking uncomfortably strong at record highs against the trade weighted index.

Inflation is particularly harsh on low wage earners because they have to spend a higher percentage of their income just to live.

But I can see why the Green Party is getting traction as it argues for economic measure which would have once seemed barking mad but are now part of the wider suite of tools for many Western economies.

Trying to argue against radical change to the structure of our economy immediately makes you sound like an apologist for the status quo, that you are living in some sort of rarefied elite world where you think the New Zealand economy is humming along just fine.

Clearly the job cuts of the past couple of weeks are a reminder that things are not fine. The economy is recovering far too slowly and quarter by quarter it is two steps forward and one step back.

And where there appears to be some recovery it is in the wrong places. Property prices should be coming back last. Creating jobs and lifting real incomes should remain pressing goals for the Government.

The dollar issue is not going away.

It is a problem for National and for Labour as the party tries to formulate an economic policy that doesn't alienate middle New Zealand.

The country's biggest problem is the failure to improve productivity.

Back in 2010 the New Zealand Institute reported that New Zealand has about 20 per cent less capital employed per worker. We aren't a terribly efficient economy because we don't invest in ourselves.

Too many of our companies are failing to invest for the long term.

The failure to increase productivity translates to a constant focus on costs and results in wages that don't keep up with the increasing cost of housing.

As long as the tax system is weighted the way it is, it's a big challenge to raise capital domestically and curb housing market speculation.

In all the debate about monetary policy and macro-prudential tools for bank regulation it is almost as if Labour's perfectly sensible capital gains tax policy has been forgotten.

Measures like that offer a way to shift the balance in the economy without destroying the parts of it that work.

You'd think given the heat of the media attention on housing affordability and with the election looming that it would be the big push for David Shearer and David Parker. But the Labour leadership seem to have left the running on alternative economic policy to the Greens.

Their sabre-rattling talk of currency war and loose inflation is a concern.

It's time for some moderate voices of economic opposition to step into the political fray.

- NZ Herald

Liam Dann

Business editor of the NZ Herald

Liam Dann is the Business editor of the New Zealand Herald, overseeing all our business content in print and online. He has been a journalist for 20 years, covering business for the last 14 of them. He has also worked in the banking sector in London and travelled extensively. His passion is for Markets and Economics, because they are the engine of the New Zealand economy.

Read more by Liam Dann

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