Competitive devaluations can hurt
Korean rapper Psy’s hilarious “Gangnam Style” is catching on around the globe. But the tune to which the world is now revolving is something entirely different, called “quantitative easing,” also known for short as QE. It is a monetary strategy used by central banks to stimulate stagnant economies when conventional interest rate policies stop having enough effect.
The central bank prints more money to buy bonds and other assets from financial companies, boosting liquidity in hopes of lower borrowing rates and spurring spending.
The European Central Bank agreed early this month to an ambitious monetary stimulus plan to buy an unlimited amount of bonds from struggling euro zone states to ease their credit crises.
The U.S. Federal Reserve matched it the following week with a third round of quantitative easing in which it will purchase $40 billion in mortgage-backed securities. The Bank of Japan also primed its note printers after pledging to raise the cap on government bond purchases by 10 trillion yen ($129 billion) to defend its currency.
The capital market is swelling with easy liquidity from the world’s richest economies.
The massive unleashing of new money is sending the prices of equities, bonds and commodities sky high. At a glance, the booming markets raise the hope for a revived global economy. But there are no positive ripples in the corporate or consumer sector. There are only dizzy capital movements in search of better gains.
Each country or zone has its reasons to resort to quantitative easing. The European continent has been in a panic of a domino effect on state bankruptcies if the ECB does not come to the rescue and purchase bonds from debt-stricken member nations choking under sky-high borrowing rates.
Washington’s monetary authorities have been under mounting pressure to stimulate the economy ahead of the presidential election. With interest rates at nearly zero, the Fed had no other choice but to resort to quantitative easing. Japan is also preparing for elections. It printed more yen to keep the local currency competitive on the global market against the cheaper U.S. dollar and euro.
But the so-called beggar-thy-neighbor policy, a gain at the expense of other nations, already has backfired and worsened global economic problems. A weakening of the dollar and other staple currencies has spilled over to emerging markets, raising currency values there and eroding their price competitiveness.
Leading emerging economies like Brazil and China immediately lashed out at “reckless protectionist” moves by advanced economies and warned they would take strong defensive measures. Of course, they can use the same monetary easing weaponry. So begins a global-scale currency war.
Serial competitive devaluation through liquidity easing will wreck havoc on international financial markets and invalidate actions by individual states. If the new money fails to generate positive results, it will only end up building inflationary pressure. Monetary action helps an economy at home, but the effect is watered down if the prescription is applied across the globe.
Moreover, the current problems of many countries in trouble cannot be cured by monetary easing. Europe’s intertwined fiscal and debt crises, the prolonged U.S. slowdown, Japan’s stubborn recession, and China’s risk of experiencing a hard-landing are too complicated to be solved with money. Pumping in new money can buy time but does not fix the problems.
Each country has individual problems, but the fundamental solution is the same. They need to implement restructuring to hone their competitiveness and productivity. Without improving the quality of their economic structures and competitiveness, countries cannot break free from fiscal crises and generate decent jobs. The bubbles must be pricked and the economies must start afresh in a better state in order to pay off debt and move ahead.
We have not been entirely pulled into the ongoing currency war, but the canon shots could soon reach our territory. We will have to brace for the immediate repercussions, and some more enduring ones, and build resilience and the foundation for stable growth in the longer run. We need to strengthen our economic fundamentals as much as the U.S. and Europe need to - or before they do.
* The author is an editorial writer of the JoongAng Ilbo.
by Kim Jong-soo