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Sab waqt ki hera pehri hai – Looming Currency War

“Currency war” (jargon made popular by Brazilian prime minister) has brought out three points very clearly:

1) Too much of everything is bad, even the money.

2) Hard hit every country has taken due to the recession and even the great USA, the most ardent proponent of free market now actually not interested in free market, ask President Obama.

3) With time everything changes including the needs and perception – earlier everybody was running behind capital but now no one wants it.

Third point is going to be the centre of attraction in the article.

The lines from the song “Sab waqt ki hera pheri hai” from the Bollywood movie Hera Pheri is becoming more and more apt with each passing day. These lines mean that with the time all needs and perception change. It were the emerging economies like Brazil, India etc which wanted to capital most in early 90s, and now they want none. Earlier emerging economies were running behind the capital. Now capital is running behind these economies. Who can forget the crisis India faced because of inadequate foreign exchange. It was blessing in disguise for sure because it caused India to open its market for the world and since then India has not looked back. The growth story is there for everybody to see. Clocking above 7% growth is no mean feat, ask USA but don’t ask China.

So suddenly what has happened that caused this war of currency. As usual whatever happens nowadays, it is because of recession root of this “war” is also in recession. Huge amount of money to the tune of 12 trillion dollars as per IMF estimates is pumped by the central governments in their respective economies to revive them. But as an old saying goes you can take horse up to lake to drink water, but you cannot make it drink. So even though money was pumped in the system, people and businesses were sceptical about the recovery and demand and hence demand for money didn’t increase in these economies. Returns nosedived in sync with dip in growth of the economy. The effect is two pronged. Manufactures have to search for market and hence exports become more and more important just not for China but also for every nation in the world as consumption in their economies is not reviving. Secondly investors (read speculators) started moving out of these economies looking for good returns and growth. Their search (Even Google was not required) landed them in developing economies market.

Problem arising out of excess capital inflow is also twofold. As money inflow increased, the country in which it started flowing in, its currency started appreciating making exports more and more uncompetitive. Cost of sterilization kept rising. Secondly markets started becoming more and more speculative and volatility increased as most the capital inflow is portfolio investment. Hence to tackle these problems governments started taking measures to stop appreciation of their currency. Like Brazil’s doubling of transaction tax on fixed income flows. These kinds of measures are being taken by China for years and it is able to keep its currency down artificially to keep up its export competitiveness. Problem now is that these kinds of measures are being taken by every other government. So if all government start taking steps to depreciate their currencies, it will trigger a downward spiral which may be detrimental for the growth revival in the world and everybody will be worse off. Question is in this game who will blink first.

Soon it will be Rime of an Investor – Money money everywhere not a penny to invest.


Dushyant Chaturvedi

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This entry was posted on October 18, 2010 by in Consulting, Finance.
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