Economics

Currency war means currency suicide

What the media calls a “currency war,” whereby nations engage in competitive currency devaluations in order to increase exports, is really “currency suicide.” National governments persist in the fallacious belief that weakening one’s own currency will improve domestically-produced products’ competitiveness in world markets and lead to an export driven recovery. As it intervenes to give more of its own currency in exchange for the currency of foreign buyers, a country expects that its export industries will benefit with increased sales, which will stimulate the rest of the economy. So we often read that a country is trying to “export its way to prosperity.”

Mainstream economists everywhere believe that this tactic also exports unemployment to its trading partners by showering them with cheap goods and destroying domestic production and jobs. Therefore, they call for their own countries to engage in reciprocal measures. Recently Martin Wolf in the Financial Times of London and Paul Krugman of the New York Times both accuse their countries’ trading partners of engaging in this “beggar-thy-neighbour” policy and recommend that England and the US respectively enter this so-called “currency war” with full monetary ammunition to further weaken the pound and the dollar.

I am struck by the similarity of this currency-war argument in favour of monetary inflation to that of the need for reciprocal trade agreements. This argument supposes that trade barriers against foreign goods are a boon to a country’s domestic manufacturers at the expense of foreign manufacturers. Therefore, reciprocal trade barrier reductions need to be negotiated, otherwise the country that refuses to lower them will benefit. It will increase exports to countries that do lower their trade barriers without accepting an increase in imports that could threaten domestic industries and jobs. This fallacious mercantilist theory never dies because there are always industries and workers who seek special favours from government at the expense of the rest of society. Economists call this “rent seeking.”

A Transfer of Wealth and a Subsidy to Foreigners

As I explained in Value in Devaluation?, inflating one’s currency simply transfers wealth within the country from non-export related sectors to export related sectors and gives subsidies to foreign purchasers.

It is impossible to make foreigners pay against their will for the economic recovery of another nation. On the contrary, devaluing one’s currency gives a windfall to foreigners who buy goods cheaper. Foreigners will get more of their trading partner’s money in exchange for their own currency, making previously expensive goods a real bargain, at least until prices rise.

Over time the nation which weakens its own currency will find that it has “imported inflation” rather than exported unemployment, the beggar-thy-neighbour claim of Wolf and Krugman. At the inception of monetary debasement the export sector will be able to purchase factors of production at existing prices, so expect its members to favour cheapening the currency. Eventually the increase in currency will work its way through the economy and cause prices to rise. At that point the export sector will be forced to raise its prices. Expect it to call for another round of monetary intervention in foreign currency markets to drive money to another new low against that of its trading partners.

Of course, if one country can intervene to lower its currency’s value, other countries can do the same. So the European Central Bank wants to drive the euro’s value lower against the dollar, since the US Fed has engaged in multiple programs of quantitative easing. The self-reliant Swiss succumbed to the monetary debasement Kool-Aid last summer when its sound currency was in great demand, driving its value higher and making exports more expensive. Lately the head of the Australian central bank hinted that the country’s mining sector needs a cheaper Aussie dollar to boost exports. Welcome to the modern version of currency wars, AKA currency suicide.

There is one country that is speaking out against this madness: Germany. But Germany does not have control of its own currency. It gave up its beloved Deutsche Mark for the euro, supposedly a condition demanded by the French to gain their approval for German reunification after the fall of the Berlin Wall. German concerns over the consequences of inflation are well justified. Germany’s great hyperinflation in the early 1920’s destroyed the middle class and is seen as a major contributor to the rise of fascism.

As a sovereign country Germany has every right to leave the European Monetary Union and reinstate the Deutsche Mark. I would prefer that it go one step further and tie the new DM to its very substantial gold reserves. Should it do so, the monetary world would change very rapidly for the better. Other EMU countries would likely adopt the Deutsche Mark as legal tender, rather than reinstating their own currencies, thus increasing the DM’s appeal as a reserve currency.

As demand for the Deutsche Mark increased, demand for the dollar and the euro as reserve currencies would decrease. The US Fed and the ECB would be forced to abandon their inflationist policies in order to prevent massive repatriation of the dollar and the euro, which would cause unacceptable price increases.

In other words, a sound Deutsche Mark would start a cascade of virtuous actions by all currency producers. This Golden Opportunity should not be squandered. It may be the only non-coercive means to prevent the total collapse of the world’s major currencies through competitive debasements called a currency war, but which is better and more accurately named currency suicide.

This article was previously published at Mises.org.

6 comments to Currency war means currency suicide

  • Paul Marks Paul Marks

    Is it really “Currency Wars” or are various governments (and Central Banks) just desperately trying to sustain the Credit Bubble (“broad money”) by expanding the form of money they control (the “monetary base”)?

    After all this started with Japan a couple of decades ago – near zero percent interest rates and so on. The banks and the rest of the Japanese Credit Bubble financial system were desperate for money – the authorities could have let it go (allowed people to start again), but they assumed that would mean zombies on the streets and “The End”.

    It is the same with the other governments – none of the major governments are prepared to let the banks (and the rest of the Credit Bubble financial system) collapse (let people start again) they will do anything rather than allow that.

    I think the above (not a desire to push their currency down in exchange with other currencies) is the major factor.

    Although, yes, the old line “if we push down the exchange rates we will boost exports” is the secondary factor – but if “Currency Wars” was correct it would have to be the primary factor (and I do not think it is).

    The primary factor is the desperation to preserve the Credit Bubble financial system – by pumping up the “monetary base” to back up the “broad money”.

  • It might be that BitCoin or/and other encryption currencies will soon begin to impose universal monetary discipline.
    This will happen as more and more people realise that BitCoin shouldn’t be thought of as an alternative currency but simply as a medium of exchange. Think about it for a moment. If you had to pay for a product or service in BitCoin you would go to a Bitcoin exchange to buy the amount of BitCoins with your national currency in order to pay for the product or service. In practically the same moment you would make the payment (Note: You don’t have to own any BitCoins to).
    Now consider the product supplier or service supplier. Although they are pricing in BitCoin the price will be constantly changing to reflect the exchange rate of their currency of choice. When a payment is made to them it will be instantly exchanged for their currency of choice (Not: they do not have a store of BitCoins – they have possession of the BitCoins only for micro-seconds).

    It will not take much thought to realise that the currency of choice by the receivers of BitCoin payments will be the currencies that are least subject to devaluation. This should act as a curb on money printing.

    People who don’t understand this role for BitCoin dismiss it because of its lack of fundamental value and its extreme volatility. As soon as you click that you don’t have to hold bitCoins and it doesn’t matter what the value is – the light bulb comes on.

  • Paul Marks Paul Marks

    “Bitcoin should not be thought of as an alternative currency, but simply as a medium of exchange”.

    A true currency must be a store-of-value, economic value is indeed subjective – but that does not mean it can not be stored, some commodities (for example gold and silver) have fulfilled this function for thousands of years.

    As Peter Small points out “Bitcoin” can NOT serve this function – there are no Bit “coins” and they not “mined”. Max Keiser may talk in terms of “Bitcoins” being “mined” and how Bitcoin is an alternative currency – but this is a person who does not even admit that he (Keiser) is the one behind the scheme – hiding behind a phantom person.

    But if Bitcoin can not be an alternative currency how can it long remain a “medium of exchange”?

    Contrary to Gary North I do not think that Bit “coin” is like Tulip Mania.

    Tulips are real flowers (in fact they were my late father’s favourite flower) Bit “coins” are not real. They are numbers – nothing more.

    • The intriguing aspect of BitCoin is that it can act as a medium of exchange without being an alternative currency.
      Think of BitCoin as simply prime numbers. Although there is no limit to the number of prime numbers the ‘discovery’ of new primes becomes progressively more difficult and computer intensive – creating a practical limit to the number of primes available. Now think of each prime number as having a recorded owner or (split up) a number of recorded owners. And this ownership record is duplicated over thousands of different computers with a method to ensure all the records remain identical.

      Monetary exchanges can be achieved simply by the temporary purchase of BitCoin in one currency and the selling of it in another currency (actually, this will involve simply changing the record of ownership). The unique aspect of BitCoin is that it doesn’t necessarily need a bank or central authority to make the exchange (change the record) as only the current owner can change the record of ownership. Anyone can set themselves up as an exchange or exchanges can be made peer to peer.

      The other important aspect of BitCoin is that these exchanges are almost costless.

      Such a system of exchange has only now become possible because of the internet and the widespread ownership of powerful computing power.

  • chuck martel

    It doesn’t seem possible for me to reach into my pants pocket and pull out a bit coin to slide across the counter in exchange for an espresso. While the concept might excite and intrigue some folks, there’s a lot of us that aren’t comfortable with that level of abstraction in the system that puts food in our belly and a roof over our heads.

    • Paying for an expresso with BitCoin isn’t the way to think about the future impact of BitCoin (although I hear this is being done). The real impact will come from effortlessly being able to swap currencies without having to go through a bank and for very little cost.

      This will bring to account the criminal activity of the banks and governments who are fraudulently debasing currencies with monetary easing.