Eurozone leaders attending the recent G7 summit of finance ministers from the richest capitalist nations let out a howl of impotent anguish. The statement issued after their meeting (7/8 February) at Boca Raton, Florida, deplored the "excessive volatility and disorderly movements" in exchange rates.
Economists worldwide are grasping at any sign of a revival in the US and world capitalist economies. But there are dangers that increased volatility and turbulence in the global economy as a result of currency ’realignment’ and capitalist speculation could cut across any recovery. Lynn Walsh, editor of the Socialist Party’s theoretical magazine Socialism Today, explains the background. socialistworld.net.
Turbulent times ahead?
Once again, they called for ’flexibility’ in the exchange rates of some East Asian countries. US leaders agreed to this language, but in reality they are quite happy to see the decline of the dollar, hoping that it will begin to cut the US balance of payments budget and boost the US home economy.
The Bush gang (as one commentator puts it) couldn’t give an "expletive deleted" about the euro. European leaders, on the other hand, fear that the rise of the euro and the pound (propelled by the fall of the dollar) is killing Europe’s export trade.
In dollar terms, Europe’s goods are now becoming much more expensive to US consumers. In an effort to keep their share of the vital US market, some European exporters are holding down their dollar prices – which means their profit margins are being squeezed.
The major economies of the eurozone, notably Germany, France and Italy, have already suffered from several years of negative or very low growth. This has been aggravated by the restraints on government spending imposed by the eurozone stability pact, and also by the refusal of the European Central Bank (ECB) to follow the US Federal Reserve’s example in reducing interest rates to very low levels.
Now, just when the first signs of recovery are appearing, the strong euro threatens to cut across any export-led growth.
The call for ’flexibility’ (also made at the Doha G7 last September) is aimed at Japan and especially China. The fall of the dollar has meant the rise of the yen, as volatile speculative capital, ’hot money’, has flowed from the dollar to the yen and the euro.
In contrast to the ECB, which has not intervened on foreign exchange markets, the Bank of Japan (BoJ) has been frantically buying US dollars (to purchase US Treasury bonds) to slow the fall of the dollar and the rise of the yen. The BoJ has spent an unprecedented Y27,000 billion ($256 billion) since the beginning of 2003 on its effort to stem yen appreciation.
The Japanese government is desperately trying to protect Japanese exports from a further rise in the yen’s exchange rate. "Sony, the Japanese electronics giant, reckons each Y1 fall in the dollar’s value against the yen cuts the net value of its sales by Y30 billion and its net profits by Y5 billion." (Financial Times, 7 February)
For some time, moreover, the Japanese capitalists have been following a conscious policy of supporting the US economy by buying US financial assets, especially treasury bonds.
Unless it receives a sufficient inflow of foreign capital to cover its huge trade deficit (currently about $500 billion a year), the US economy could suffer a major contraction. Without the highly profitable US market, however, Japanese capitalism would also suffer a serious contraction. Tokyo therefore has a vested interest in sustaining the US current account deficit.
The European leaders’ complaint about ’inflexible currency policies’ are especially directed at China. The Chinese currency, the renminbi (RMB) also known as the yuan, has for some time been pegged to the dollar at a fixed exchange rate of 8.27.
So if the dollar falls, the RMB automatically falls with it. This means that China’s relatively cheap export goods do not become more expensive as a result of the decline in the dollar. So unlike Europe, China’s exports to the US market have not been adversely affected by the exchange rate.
Under intense pressure from Europe and the Bush administration (which desperately wants to cut China’s massive $124 billion trade surplus with the US), the Chinese government has recently hinted that it may be considering revaluing the RMB by between 5% and 10% in coming months.
This would make Chinese exports to the US more expensive in dollar terms, and could slow the growth of the Chinese economy.
Massive intervention by the Japanese government has probably slowed the decline of the dollar and the rise of the yen. But the history of currency crises shows that such intervention can only have a limited, temporary effect. Sooner or later the underlying forces propelling a realignment of exchange rates will prevail.
This is probably the main reason why the ECB has not intervened to try to halt the rise of the euro. They could spend billions of euros, but ultimately have no real effect. All they can do is deplore ’volatility’ and plead for ’flexible’ policies – in other words, for Japan and China to allow their currencies to rise, sharing the pain of dollar devaluation with Europe.
Anarchic market forces are also stirred up by the big international speculators, who play a very active part in the process. These are led by a handful of so-called hedge funds, between them controlling trillions of dollars worth of currency reserves.
Originally, hedge funds claimed to provide insurance for multi-national corporations against sudden, adverse changes in exchange rates. They use a whole array of complex financial instruments, such as options, futures, derivatives, etc. In reality, however, they have become a major source of additional volatility.
Through exploiting, hour by hour, fractional differences in currency rates across the world’s foreign exchange markets, they make enormous profits. Given the huge funds at their disposal, their tactics can have a short-term effect on exchange rate movements. In other words, they are able to stack the odds in their favour.
Currently, the big speculative players believe the dollar is going to fall a lot further, and their market gambling is aimed at driving it down as fast as possible (which will inevitably mean a further rise of the euro, pound, yen, etc).
Does it matter? In the past, episodes of major dollar decline have always led to serious turmoil in the world economy. The current realignment of currencies is occurring in the aftermath of a worldwide slump, triggered by the puncturing of the US speculative bubble in 2000.
So far, the realignments have been relatively smooth, but the full consequences have yet to be felt. But the turmoil in world money markets could provoke a convulsion in the global financial system and the whole world economy.
Under capitalism, the economic wellbeing of working-class people is subject to the gyrations of anarchic, uncontrollable market forces.
Will the falling dollar sink the recovery?
The dollar is falling, its exchange rate sharply declining against other major currencies like the euro, yen, and the pound.
The Bush administration has never officially abandoned the ’strong dollar’ policy, originally associated with the late 1990s’ boom. But in reality, it is now following a policy of ’benign neglect’, allowing market forces (helped by big-time currency speculators) to push down the dollar’s value internationally.
Since its peak against the euro in October 2000, the dollar has fallen 35% against the euro. Against a ’basket’ of currencies of the US’s main trading partners, the dollar has fallen by about 25%. In October 2000, the euro was worth $0.82 – it is now (19 February) worth $1.26, and projected to rise to $1.45 by the end of this year.
The dollar recently fell to a three-year low against the Japanese yen, and is now around Y105 and likely to fall to Y95 within a few months. The pound is at an eleven-year high against the dollar, at $1.886.
Why has Washington switched its policy on the dollar? Even the mighty US economy cannot indefinitely run a trade deficit (excess of imports over exports) of $500 billion a year or 4.5% of gross domestic product (GDP).
The flow of income (repatriated profits, investment income, etc) is also negative, bringing the overall current account (or balance of payments) deficit to 5.5% of GDP.
A recurring payments deficit requires a continuous inflow of capital from abroad to cover the gap. At the same time, it leads to an enormous accumulation of foreign debt. During the recent recession, however, the inflow of capital in the US slowed down, declining to a trickle in September and October 2003.
It picked up in December, but the leaders of US capitalism can no longer dismiss the payments deficit as a ’non-problem’. A recurring current account deficit of over 5.5% of GDP is unsustainable. The demand from foreigners for dollars, to invest in factories, property, shares, bonds, etc, declined, bringing a fall in the dollar’s exchange rate against major currencies.
Without a number of Asian governments, notably those of China and Japan, buying huge quantities of US government bonds in order to stabilise the US economy and protect their own export market, the dollar would have fallen even further by now.
The depreciation of the dollar reversed the trend of the late 1990s. During the speculative boom of that period huge volumes of foreign capital poured into the US pushing up the value of the dollar. This made imported goods relatively cheap for US businesses and consumers.
At the same time, US exports became more expensive in overseas markets. The inevitable result of weak exports combined with a surge in imports was the massive trade and payment deficit.
Various economic commentators estimated that the dollar would have to decline by between 20-30% in order to correct the trade deficit. But a weak dollar (combined with the low interest rates that prevailed) would not have attracted the tidal flow of foreign capital which propelled the bubble economy.
The capital inflow kept US interest rates low, facilitating the cheap credit that encouraged the housing boom and massive consumer spending spree. A decline in the dollar would not only have led to a marked slowing of the US economy, but it would have cut off the other advanced capitalist countries and also semi-developed low-cost producers such as the Asian ’tigers’ and China from the prime US consumer market.
The US trade deficit, in other words, was a vital ingredient in the world’s growth of the late 1990s, even though it has left a mountain of debt.
Boost for exports
BUSH HOPES that a weaker dollar will cut the deficit and boost exports, giving added stimulus to US growth at a time when consumer demand is weakening. According to the standard economic textbooks, this is what should happen. In reality, things are not so simple.
Imports from countries like China, for instance, whose currencies are pegged to the dollar, may not be cut. Exporters in countries with strengthening currencies, moreover, may strive to cut their costs to compensate for the rise in their dollar prices. They may even take a cut in their profit margins for the sake of maintaining their share of the lucrative US market.
A weaker dollar may initially boost US exports (though the trade deficit actually rose to a new peak in December 2003). Bush, of course, is desperate to stimulate growth in the period before November’s presidential election. But over a slightly longer period, US export growth will be limited by the lack of growth in economies which previously depended on the US as their prime export market.
A weak dollar automatically means a stronger euro, yen, pound, etc. This is because the international capital (and especially the speculative hot money) flowing out of the dollar is flowing into other major currencies, especially into the euro, which is now the world’s second biggest currency. This will cut across any revival of growth in Europe and Japan, and will also hit the British economy.
After the bursting of the US dotcom bubble early in 2000, the world capitalist economy entered into its worst slowdown since the end of the second world war.
With the exception of the growth spurt in the US at the end of last year (mainly stimulated by Bush’s tax rebates and the continuing housing boom), there has only been a very feeble recovery in the world economy. This could now be derailed by the currency realignments that are underway.
The decline of the dollar is also hitting commodity producers whose commodities are priced in dollars. Oil is the crucial case. As the dollar falls, oil producers are effectively being paid less for oil and gas in terms of other currencies. This is fine for the US but spells economic disaster for the producers.
The Opec secretary general, Alvaro Silva, recently said: "We are speaking about negotiating for crude in euros. It is possible that the organisation will discuss this and take a decision at a given moment." (Daily Telegraph, 10 February) The Putin government, which is not in Opec, has also been considering such a move. Pricing oil and gas in euros would enormously increase the US’s import bill.
A dollar decline will not provide an easy way out for US capitalism, enabling it rapidly to drag the world economy out of its present stagnation. Allowing a further substantial decline of the dollar’s exchange rate – which appears to be the Bush regime’s current stance – is an attempt to stimulate US recovery at the expense of the rest of the world. Such a policy will rebound on the US.
Apart from anything else, the continued realignment of major currencies (a plummeting dollar, soaring euro, yen and pound, etc) is not likely to be a smooth, orderly process. On the contrary, it spells a period of enormous turbulence in the world capitalist economy.
This article first appeared in The Socialist, paper of the Socialist Party, cwi in England and Wales