Yesterday was the 20th anniversary of the great East Asian financial crash. It started in Thailand then spread to much of Asia over several months. The crash resulted in a huge drop in U.S. interest rates because of the potential disinflation caused by the deep global crash. In the U.S. the economy was running at a very hot pace which implies a significant increase in inflation and interest rates would occur. Yet inflation remained at low levels and interest rates declined. The lesson to learn was that massive money printing in Asia created a fake economic boom there that was killed off by excessive debt. The excess money was related to a significant increase in dollar denominated debt owed to
The Yen is now about 100 to the dollar. Yesterday the central bank of Japan announced new policies and the market’s reaction was to make the Yen go up. Usually when a central bank is trying to stimulate the economy that creates cheap and easy money conditions. These actions should cause foreigners to flee because they would then fear devaluation and inflation. This should have made the Yen go down. It rose from a May, 2015 price of 125 to the dollar despite Japan’s central bank trying massive Quantitative Easing and negative rates to devalue the currency. Many other nations worried the attempted devaluation would be in violation of agreements to avoid big devaluations. Thus it is quite a surprise
The Yen went up against the dollar in the past 12 months from 125 to 108. Meanwhile the Nikkei stock index went down from 20,800 in June, 2015 to 14,900 in February, 2016 and is now 15,928. Based on the Purchasing Power Parity theory (that consumer goods should cost the same everywhere when adjusted for foreign exchange) the Yen was too cheap, possibly as much as 33% too cheap, so it needed to go up to about where it is now. A massive new amount of Quantitative Easing since Abe became Prime Minister in late 2012 caused it to be indirectly devalued. It is tempting for investors to leap to the conclusion that because Japan’s stock market has been low
Many people wonder if China will devalue its currency, the Yuan, by a huge percentage dramatically as they did by 50% in 1994. The reason this is unlikely to happen is because the countries with the big three currencies (the U.S., EU and Japan) don’t want that to happen and will be willing help China to prop up the Yuan if it needs that. Basically the world is dependent on having the major EM currencies avoid devaluation because that might drive the dollar higher and thus make it even more difficult for EM debtors to repay loans to Developed country banks. If another Lehman-style crisis happened because of this, the world’s central banks would find that the zero bound problem
Japan’s central bank started a policy of negative interest rates on January 29, 2016 and promptly saw the Nikkei stock market decline from 17,500 to 14,900. The Yen actually went up value even though lower interest rates are supposed to make a currency drop in value. The reason why the Yen went up is because it is under priced compared to China’s currency so the Yen needed to rise at least 10% from the lows of 125 in May, 2015. It has now done so. The other reason for the Yen’s rise was because China needs to have a competitive devaluation to improve exports. China is in worse shape because they have a massive debt bubble and a far lower
The Swiss Franc was suddenly upvalued today rising instantly from US $0.95 to US $1.09 per Franc. This symbolizes the risk that Central Banks can’t keep their promises of stable money and can’t afford to keep buying securities to manipulate the marketplace. The Swiss Central Bank had promised to fix the Franc against the Euro but had to buy a lot of Euro bonds to do that. They were getting tired of buying depreciating Euro bonds and losing money. The risk for the global economy is that many EM countries, especially in East Europe, have borrowed in Swiss Francs and will now find it much harder to repay their loans. This induces volatility in global markets and reduces
What will happen to the U.S. economy during the era of rising dollar? The dollar’s value is very high and will continue to rise. This makes imports cheaper and increases layoffs in the U.S. as manufacturers move to other countries. It is deflationary or disinflationary which is the opposite of the Federal Reserve’s goal of obtaining at least 2% inflation. Therefor the Federal Reserve will be tempted to take action and make the dollar go down. To do this it might need to make U.S. interest rates lower than Germany’s 0.89% yield on 10 year Treasuries. The U.S. 10 year Treasury yield is now 2.29%. This is unlikely that the Fed would suddenly shift course and lower rates.