Europe Losing the Currency War

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The “currency war” is raging with countries intervening in the forex markets, devaluing their currencies and pausing on necessary rate hikes. Europe seems unable to deal with China and the rest of the world.  The Euro is on the rise and this will eventually hurt the European economies.

The big problem is China that maintains an artificially weak currency. China offers Europe so-called “support”, but this is a bear hug. Let’s see all fronts:

The interventionists

The Swiss National Bank is intervening to weaken the Swiss yen since March 2009. Their success is very limited – EUR/CHF and USD/CHF both fell since then, but no one will be surprised if they do it again.

Japan waited patiently, tried threatening an intervention and eventually made a move. After the effect of the intervention faded away, they lowered the interest rate to 0% and are willing to intervene again.

The currency printers

Since March 2009, the Federal Reserve has printed 1.75 trillion dollars in order to provide liquidity and boost lending. In 2009, this seemed to work, but the economy has stalled in recent months, and the Fed resumed the program. They’re now talking of expanding it big-time. The dollar is on the fall.

The Bank of England also had a wide asset purchase facility – 200 billion pounds printed. In recent months, inflation has risen in Britain, and one member already pledged for a rate hike. But now, the tables have turned and another round of pound printing is on the agenda, even hough inflation is still high.

The rate pausers

Australia, Canada and New Zealand are doing quite well, thanks to their commodities export and solid economies. All have hiked the rates, but now pause on more moves, partly due the currency wars.

The Chinese Problem

The main cause for the global imbalance is China – this huge country keeps its exchange rate too low, for a long time. This enabled it to enjoy rapid growth even in periods when the whole world was struggling. The low yuan made China the world’s No.2 economy, passing Germany and Japan on the way.

The US officially wants the Chinese to revalue the yuan but doesn’t do too much. Why? China is the biggest holder of US debt, and the Americans want to deal with the issue gently. In addition, there are enough American businesses that enjoys cheap Chinese imports to the US, and they also have a voice in Washington.

Anyway, as stated earlier, the Federal Reserve has its own tools of weakening the dollar against the rest of the world. And so do other countries – if they can’t fight China, they fight each other.

European weakness

But Europe cannot seems unable to fight, as it didn’t join past forex wars. European officials, such as ECB president Jean-Claude Trichet tried raising the issue with Chinese prime minister Wen at his visit to Europe. Finally. The answer was that China is supporting financial stability by buying European bonds.

Maybe that promotes stability in the financial markets, but this stability means a stronger Euro and no weaker yuan – a stable world in which China continues growing and Europe is not competitive. This is a bear’s hug.

Germany will be the main bearer of this bear hug. The German economy is dependent on exports and will be hurt by a stronger Euro. Germany is already carrying almost all the Euro-zone on its back, leading in growth and in job creation. All this is endangered now.

I wonder if the Europeans will start fighting back, or if Germany will make more concessions.

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About Author

Yohay Elam – Founder, Writer and Editor I have been into forex trading for over 5 years, and I share the experience that I have and the knowledge that I’ve accumulated. After taking a short course about forex. Like many forex traders, I’ve earned a significant share of my knowledge the hard way. Macroeconomics, the impact of news on the ever-moving currency markets and trading psychology have always fascinated me. Before founding Forex Crunch, I’ve worked as a programmer in various hi-tech companies. I have a B. Sc. in Computer Science from Ben Gurion University. Given this background, forex software has a relatively bigger share in the posts.

19 Comments

  1. Concise and well written report. Lays it all out in a simple form, easy to understand. Good work. Well done. Thank you.

  2. Excellent post.
    I wonder if China consistently bought US bonds with the deliberate intent of destabilizing the US economy or if it was merely an unintended by product of their own currency manipulation? Which ever the case it looks like they are doing the same with the EuroZone, which will have the same outcome.

  3. Thanks Dave. I don’t think that China’s policy was intended to hurt the US, just to empower itself…

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  5. Robert Leviton on

    It appears almost like China is rapidly becoming the most powerful economic nation in the world. Sure the US still has the largest economy, but with so much US debt owned by China, they can really pull the plug at any time.

    Between the real and potential power of China, plus the influence of US corps. dependent on China for cheap products, the US government seems to be in the middle, being pushed and pulled around by other powerful forces.

    Thanks for the thoughtful article.

  6. Yohay, an excellent article. out of all the forex analysis out there like dailyfx, bloomberg etc yours tops the list in my books. its simple to read, right to the point and excellent in exposing overall view of the financial situation. only recently discovered this blog but im going to find it hard to leave. keep it up.

  7. Great explanation thanks…but how quickly received logic changes!

    It was only in June that many pundits were prophesising that EUR\USD parity would be here by year end. Slowly but surely during the last few weeks a new paradigm has been taken down from the shelf – Andrew Balls at PIMCO described, in late September, how the Euro was becoming the “shock absorber currency” for the rest of the world.

    Regular and ongoing hints by the UK et al regarding further QE lead to an immediate currency fall and are described, rather casually by many as “unintended side effects”.

    I’m not sure informed residents of Southern Europe whose hopes ride on an export driven recovery over the next few years during times of extreme fiscal constraints would be so sanguine about the unfolding events.

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