Who’s Winning the Currency Wars?

best investing podcasts - americanmonetaryassociationIt sounds like the plot of a bad science fiction movie. A mysterious, invisible war is going on behind the scenes of the world’s major banks, with cutthroat brinkmanship and dirty strategies to get the upper hand in the global currency markets. It’s not the plot of a grade B flick, but by many accounts, a reality. Just ask the Swiss, whose recent power play with their franc brought the “global currency wars” to public attention.

Hardball money maneuvering might seem commonplace among the hard-charging emerging powers of Asia and other areas of the world, but it’s little Switzerland, that historically neutral country that’s known for its elegance and discretion in money matters that’s standing on the front lines of this new financial battlefield. And the outcome could ripple through the rest of the world’s major currencies – including the US dollar.

In 2012, the Swiss National Bank imposed an exchange rate “floor” for the Swiss franc against the euro. The plan was to keep the franc from appreciating too much against the euro. But, according to a recent article from Business Insider, by mid-January 2015, the SNB had abandoned that floor, allowing the franc to float freely.

The world’s money markets run on a complex system of constantly shifting rates and conversions that keep national banks largely stable and hold the line against runaway exchange rates that put local economies and international trade in jeopardy. International exchange rate boards such as Libor and a variety of banking commissions and consortiums monitor and adjust the flow of currencies and prevailing exchange rates.

But the behavior of individual banks, along with changes in local and global economies, can shift the balance dramatically. That’s why the Swiss national Bank’s decision to capitulate and abandon its floor for the franc against the euro sent shock waves through the global financial community.

Without the artificial imposition of the SNB’s floor, the frank immediately gained 30 percent against the euro. Stocks in export dependent Swiss companies plummeted. Eastern European countries whose mortgage debt is carried in francs were also hard it. And the situation raised fears around the globe that other currencies might follow suit.

Some financial experts speculate that the SNB caved because of expectations that the European Central Bank might embark on a new program of “quantitative easing” – an initiative to buy massive amounts of bonds that would get more euros circulating in the market. That in turn, the ECB expected, would actually increase demand for the Swiss franc, which has a reputation as a “safe” currency.

In the face of these developments the Swiss had no real option but to retreat and pull the floor out from under its own currency.

Quantitative easing is an term that’s become familiar in US financial circles of late, thanks to the Federal Reserve’s foray into manipulating the behavior of interest rates and currency values through bond- buying. The latest round, termed QE3, was a massive intervention designed to prop up the country’s struggling economy in the aftermath of the financial collapse of a few years ago.

With improving economic signals, the Fed’s version of quantitative easing is tapering down. But the same strategy of buying up large numbers of bonds and other kinds of securities as a financial prop for a shaky economy has been applied in other countries as well, with mixed results.

While the Fed’s program came under fire for its scope and aggressiveness, variations tried in European countries such as Spain and Greece have been equally criticized for not being aggressive enough to have a lasting impact on the currency crisis facing the country.

Now, as the European Central Bank contemplates its own version of bond buying, the Swiss reluctance to abandon the floor on the franc’s exchange rates appeared to be a politically hostile move. Capitulating in the face of the ECB’s plans might have been a politically savvy move – but it was certainly costly. The Swiss National Bank ended up buying massive amounts of foreign currency – an amount equivalent to 85 percent of the country’s gross domestic product.

The effects of this latest skirmish in the global currency wars aren’t limited to just the euro and the franc. The turmoil could spread to other markets such as those in Asia and Latin America. And the US dollar isn’t immune, either.

Because the Federal Reserve expects interest rates to surge as its own quantitative easing plans taper down, those rising rates, and the dollar’s performance against the euro and other leading currencies, could play a role I heating up the currency wars. For now, new Fed chair Janet Yelllen has taken a largely hands off approach to manipulating the dollar, but as the front lines of the currency war move closer to home, that could change. (Top image:Flickr/ju-x)

Eno, Aurelia. “The Seis Natioal Bank Is the First Casualty of the Modern Global Currency War. Business Insider. businessinsider.com 18 JN 2015

Read more from The American Monetary Association:

AMA 106: New York STate Tax with Ashlea Ebeling

Bond Rates Plunge- But Where’s the Crisis?

The American Monetary Association Team




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