Countries can retaliate against trading partners to get a cheap currency by intervening in foreign exchange markets, lowering their interest rates (to discourage capital inflows), imposing capital controls and using other forms of manipulation.
As I said earlier, the world is now in an acute phase of a long-standing currency war.
The yen (JPY) is collapsing because the Bank of Japan needs help with exports to fend off another recession. The euro (EUR) has crashed because the ECB also wants to keep interest rates low and exports high to help member economies.
The Chinese yuan (CNY) is falling rapidly because China’s economy is suffering from the effects of its ridiculous zero-COVID policies and softer demand from the U.S., the EU and Japan. The same is true in pounds sterling (GBP) because the U.K. is on the brink of a recession.
In effect, the second-, third-, fourth-, sixth- and seventh-largest economies in the world (China, Japan, Germany, the U.K. and France) and others comprising over 40% of global GDP are free-riding on a strong dollar by pursuing cheap-currency policies.
The question is how long will the U.S. stand for this? The U.S. clearly does not mind the strong dollar for the time being. The Fed’s interest rate and quantitative tightening policies point toward an even stronger dollar ahead.
As long as U.S. growth is solid, the U.S. might not mind being a financial life preserver for the rest of the world by allowing its trading partners to pursue cheap currency policies. This can help fight inflation in the U.S. by making foreign imports cheaper when paid for in strong dollars.
History shows this won’t last. The Fed’s policies will put the U.S. into a recession by late this year or early 2023. That may help kill inflation, but it’s a nightmare for politicians running for reelection in 2024. Suddenly, the Fed may slam the brakes on rate hikes and even begin rate cuts as they did in 2019.
When that happens, the U.S. dollar will plunge and the dollar price of gold will soar. Currency wars don’t end quickly. They do take time to play out. The U.S. is propping up the world today with its strong dollar approach because policymakers think we can afford it.
When a recession hits the U.S., that policy will change fast. It always does.
- Source, James Rickards
