Are signs pointing to the revival of a global currency war?

The Economist magazine of the U.K. warned that the world is entering a new stage of currency war on Thursday, saying, “The parcel contains a bomb rather than a treat. Countries need to get rid of it before the music stops.”

A global currency war was temporarily halted at the G-20 summit in Seoul last year but is showing signs of reigniting.

The world lacks leadership to tackle the crisis, however. The U.S. will host the next G-20 meeting next month and France will host the one in October, but the effectiveness of the outcome is highly in doubt. The U.S. and European countries, which should lead international cooperation, have lost market confidence as the main culprits of the crisis.

○ Looming global currency war

On the U.S. Federal Reserve’s pledge to keep interest rates near zero for the next two years, the Financial Times said conditions are ripe for the eruption of a global currency war. A weak dollar caused by low rates will diminish the price competitiveness of major exporting countries and lead to increases in their current account deficits, which will force them to depreciate their currencies.

Against this background, Japan intervened in its foreign exchange market on Aug. 4 to weaken its currency by selling 4.6 trillion yen (60 billion U.S. dollars). As the yen continued to strengthen even after Tokyo decided to lower its key rate to near zero on Aug. 3, Switzerland said Thursday that it would take every possible measure to stem the appreciation of its currency.

With global markets taking this as a temporary Swiss franc-euro peg, the Swiss currency plunged 5 percent against the dollar.

China is still allowing the yuan to appreciate over fears of rising inflation, but critics forecast Beijing will act if Washington implements a third round of quantitative easing.

○ Limits of the G-20 system

In the wake of the global financial crisis in 2008, developed economies realized the limits of the G-7 system and acknowledged the legitimacy of the G-20 to increase international cooperation. In London in 2009, the heads of G-20 economies agreed on joint macro-prudential measures pledging 5 trillion dollars of public stimulus, marking a turning point for the global economy.

At the Seoul G20 summit last year, finance ministers and central bank governors from G20 countries decided to complete the guidelines for current accounts by the first half of this year, temporarily ending the eruption of the global currency war.

The world is facing another crisis, however, and a global currency war is also about to break out. The G-20 will hold a meeting of finance ministers and central bank chiefs on Sept. 23 in the U.S. and another in France on Oct. 14. A summit in France will discuss measures to ease global financial uncertainty on Nov. 3.

The G-20 system is showing signs of breaking down, raising pessimism over global cooperation. Competing interests among countries are making it difficult to come up with an effective solution. Worse yet, developed economies are the main culprits of the spread of the crisis.

Pessimism is also rising that the crisis could lead to a catastrophic situation. The currency row can lead to protectionism that could slow down the global economy, prolonging the crisis.

A Strategy and Finance Ministry official in Seoul said, “Countries are well aware that currency conflicts and protectionism will delay economic recovery and expect international cooperation,” but added, “International cooperation through the G-20 won`t be easy.”

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