If someone tells you that “Asian countries artificially keep their currencies undervalued” (in order to boost exports to the US), you should probably challenge them… While that assertion might have been true in 2008, it may not be anymore.
All that you think you “know” about Asian currencies may be changing…
If you were like me, you probably assumed that Asian currencies were undervalued (vs the dollar) and should rise (if only their central bankers would stop targeting a weak currency vs. the dollar). But, is that still true? Or, have the facts changed?…
How quickly the “facts” can change:
Remember, it wasn’t all that long ago that Vietnam was one of those “undervalued” countries that was facing pressure from trading partners to allow the currency to appreciate. It was widely reported that the Vietnamese authorities sold local currency, bought dollars in an effort to stop appreciation of their currency (in an effort to keep their exports competitive with Chinese exports heading for the USA). But then…common wisdom was proved wrong in the blink of an eye.
As we outlined here in GloboTrends, those factors can change suddenly….
In April / May of 2008 there was a sudden change, and investors no longer thought the Vietnamese currency (dong) was undervalued, but instead thought it was overvalued, and began to sell..and sell, and then sell some more. The chart below has an inverted scale, so the sudden shift “upward” indicates a dollar strengthening, or Vietnam Dong weakening (ie. it took more Vietnamese currency to buy one US dollar).
Leading up to April ‘08….there was increasing pressure on Vietnam to allow their currency to appreciate (become stronger vs the dollar). But then…do you see the sudden change?
What was scary was just how quickly “common knowledge” could be turned upside down. Overnight, the common wisdom changed from one in which “Vietnam was holding its currency down to boost exports”….and turned into a route with downward pressure on the currency (you could hear currency traders yelling “sell, sell, sell”)…Is there a lesson here for investors looking at China and other Asian currencies? You had better believe it!
Are the Asian currencies still “undervalued”…maybe not
Recent data and analysis shows (many countries in) Asia to be suffering from two crises. One is the a crisis of falling exports. The other is of falling internal demand. While this dynamic may be true in much of the world in 2009, it is magnified to a ‘whole-nother-level’ in Asia…
1. Falling Exports / falling production:
South Korea is case in point…quietly moving from large current account surplus’s to deficits…and thereby losing its incentive to accumulate foreign reserves. It also means that the upward pressure on the S.Korean currency has vanished.
“The fall of 32.8% is far more than drops of 19% in November and 17.9% in December. With exports accounting for nearly half of South Korea’s economic output, the plunge represents the biggest challenge that South Korea has faced so far in the global economic downturn that began more than a year ago with the housing crisis in the U.S. source: WSJ
From Brad Setser’s blog: “And Korea is now running a trade deficit despite the huge fall in commodity prices because exports have fallen more. Japan is in a similar position. That suggests a huge fall in the global current account surplus, as the fall in the oil exporters surplus doesn’t seem to be offset by a rise in Asia’s surplus. source
Perhaps the economy that is suffering the most from this economic slowdown is Taiwan. As was reported in the Economist, the drop in production in Taiwan has actually been WORSE than occurred in the US during the “Great Depression”:
Taiwan’s (GDP) dropped by 42% and industrial production was down by a stunning 32%, worse than the biggest annual fall in America during the Depression.
2. Internal Demand falling (fast)
What is happening in Asia is two-fold…first came the fall in exports (upon which many of these export-oriented tigers were built). But, then the vicious cycle continued from there, and led to a dramatic fall in local consumption. People cut back as they lost jobs, and that in turn caused the second challenge for Asian economies. With both falling export demand, and faltering internal demand, these economies are seeing drop-offs more severe than in the US or Europe.
A recent report by Frederic Neumann and Robert Prior-Wandesforde, two economists at HSBC, a large bank, argues that Asia is suffering two recessions: a domestic one as well as an external one. source: The Economist
What effect will this have on currencies?
With this kind of twin pressure, what currency traders would dare to speculate on future appreciation?
This kind of dynamic has been much more intense in SE Asia than in other parts of the world (such as Brazil) which were less dependent on exports for growth. Perhaps this can explain some of the enthusiasm for Brazil that many international organizations (such as the OECD) have exhibited lately.
On the world?…
Remember…currency trading is a zero-sum game, which means that one countries depreciation must be matched by anothers appreciation. If one goes up, another must go down. So, what would be the impact if Asian currencies no longer faced pressure to appreciate? If those currencies were to actually depreciate then some other currency must appreciate. Would it be the dollar? The euro? Or some other currency? If the relative price of the Asian currency were to remain relatively fixed vs the dollar, perhaps some other currency would need to appreciate….like squeezing one end of a baloon, the other end must inflate…
Perhaps this explains why currency markets have been so erratic lately….
“THE FOREX MARKET IS QUITE CONFUSED THIS MORNING for there is no consistency of any sort to the US$’s movement; it is markedly higher relative to some currencies (the Yen and the Canadian$, for example) while it is markedly lower compared to others (the EUR, the Aussie and the New Zealand dollars). Further, the movements are rather large in all instances; i.e., the dollar has not moved just a bit either side of yesterday’s postings, but when it has moved it has moved rather materially”…source: The Gartman letter, Tuesday Feb 3, 2009
- credit crisis…a symptom, not the cause of global imbalances (3)
- If China were to stumble… (3)
- Bill Gates and China… (3)
- The dollar…appreciation / depreciation in 2009? (0)
- Beggar thy neighbor (part 2); this time its Switzerland?!? (2)
Originally published at Globo Trends and reproduced here with the author’s permission.