More Global Forex Turmoil Ahead

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  • Over time, it can’t be contained without a more diversified global reserve currency system.
  • But new pressures will ensue as the Fed will continue its tightening.
  • Today, forex volatility is not a mainly economic issue.

The global foreign exchange markets are experiencing their worst upheaval ever as if the world economy needed another catastrophe to start. Without a more diversified global reserve currency system, it cannot be controlled over time as reported by China Daily.

Fallen currency reserves 

According to Bloomberg, global foreign currency reserves have fallen some 7.8% to $12 trillion this year; a decline of $1 trillion, or more than in almost two decades, when Bloomberg began to compile its data.

Recently, the pound has recovered some of the lost ground, as has the euro.

But new pressures will ensue as the Fed will continue its tightening.

That’s 19% of the loss of reserves this year.

Meanwhile, Japan’s gross debt as a percentage of the GDP could soar close to 270% by the year-end; the highest among major advanced economies – and most vulnerable to a crisis that would have global repercussions.

Emerging Asia has not been immune to these pressures.

Korea’s plunge, India’s all-time low, China’s dual story

In September, Korean foreign reserves amounted to $417 billion, having taken a $20 billion hit from the previous month.

In India, forex reserves have tumbled $96 billion this year to $538 billion.

While currency depreciation can benefit exporters, it tends to foster capital flight and imported inflation, both of which are spreading in emerging Asia.

The yuan has fallen 11% against the dollar and could finish the year with its biggest decline against the greenback since 1994.

Yet, the dollar pressures tell only a part of the story.

Today, forex volatility is not a mainly economic issue. It also reflects geopolitical objectives.

Huge forex interventions

As the world economy is teetering at the edge of still another global recession, the Fed’s belated and aggressive tightening is causing huge monetary shocks in the world economy.

As a result, the peso could slide to an all-time low of about 62 against the US dollar later in the year.

Just as the global forex turmoil could prevail until the first quarter of 2023.

Even if the buoyant dollar will make the US a more expensive place to produce, it will affect America less severely than its trading partners, mainly because US trade is almost entirely invoiced in dollars.

But what will happen when the dollar surge against other major currencies eclipse?

 Some previous significant run-ups in the dollar’s value, particularly in the mid-1980s and early 2000s, were eventually followed by sharp declines. And this time could prove worse.

A rising dollar is neither stabilising nor strong

After two decades of postwar recovery in Western Europe and Japan, the US began to suffer from huge trade deficits. In 1971, President Nixon ended unilaterally the convertibility of the dollar to gold, which resulted in a price shock that reverberated across the world.

As gold no longer offered a yardstick for value, the perception of value replaced value itself.

Since the 1970s, three periods of dollar surges have been followed by periods of decline that have caused much international collateral damage. Each of these surges reflects the progressive relative erosion of the dollar. When the dollar surged with sky-high rates in the early 1980s, US sovereign debt was still less than 40% of America’s GDP. With the surge in the early 2000s, the ratio was hovering around 55%. That prevailed until the 2008 crisis, which was overcome with massive debt-taking that pushed the ratio beyond 100% in the early 2010s.

Then came the pandemic and the Biden administration’s irresponsible fiscal policies and now the ratio exceeds 137% of the US GDP (more than twice as high as the Philippines’ 62%). As the trendline will accelerate in the coming years, the ratio could double by 2050 (Figure).

Toward the crisis

US debt as a percentage of GDP is where it was in early 2010, just before Rome’s debt crisis, as compared to Italy. Here is the issue: The US dollar is relevant in international trade, while the Italian lira is not.

The belief that the US dollar is still strong is based less on American economic fundamentals and more on the idea that these fundamentals hold true despite significant changes in the global economy.

The US currency is now only a momentary safe haven rather than a long-term one. Because of this, the day of reckoning is simply an issue of time and not a matter of principle.

 

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Source: China Daily

 

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