Exporting countries are taking advantage of weak currencies around the globe to help boost foreign trade, but that’s not a risk-free strategy.
Some countries are moving toward currency depreciation as a result. As Purdue University agricultural economists, Chris Hurt and Philip Abbot point out, the United States, Chinese and Japanese governments have either directly or indirectly depreciated their currencies, and Europe may be next. But that ”that might create a backfire effect, they add.
“Once everybody does it, it doesn’t work and it becomes costly,” Abbot says. “You get the effect of prices going up and higher inflation without the benefits of greater economic output and job generation. In the long run, everything becomes more expensive and you lose the gains from trade.”
Hurt cautions that these actions also could trigger trade wars that could stymie economic activity around the globe. “Now that countries are trying to get a competitive advantage by manipulating their currencies, it could result in retaliation from other countries,” he notes.
In the United States, the Federal Reserve has pushed the dollar’s value down by way of loosing its monetary policy. It has kept interest rates near historic lows to give the U.S. economy a jolt. Japan also tried to weaken its yen to boost exports, while cutting short- and long-term interest rates. It also moved to selling yen and buying U.S. dollars on the open market. China has used a weak yuan to bolster its economy, and Beijing buys U.S. Treasury bills with its export surplus as an investment vehicle, the economists note.
Europe, Abbot explains, also faces a strong Euro and could move to weaken that currency. (In the past three weeks the Euro has gained 16 cents on the U.S. dollar, and is now worth about $1.40). The concern is that multiple nations could do the same simultaneously, creating an environment conducive to tariffs.
“What scares everybody is that this is reminiscent of the Great Depression,” Abbot says. “The United States imposed the Smoot-Hawley tariffs and then other countries retaliated with tariffs of their own. Many economists believe it made the Great Depression more severe and last longer.”
The World Trade Organization does not prohibit currency manipulation, but some trade exports consider it a type of export subsidy, which the WTO does forbid. Washington lawmakers and the Obama administration are pressuring China in particular to re-think its currency position.
Meanwhile, this issue has made economists common news talk-show guests as the actions of the countries in question continue to walk a tightrope regarding currency depreciation.
Source: Purdue University, Meatingplace.com