The link between “currency wars” and central banks morphing into hedge funds

The credit crunch era has brought us all sort of themes but a lasting one was given to us by Brazil’s Finance Minister back in September of 2010. From the Financial Times.

“We’re in the midst of an international currency war, a general weakening of currency. This threatens us because it takes away our competitiveness,” Mr Mantega said. By publicly asserting the existence of a “currency war”, Mr Mantega has admitted what many policymakers have been saying in private: a rising number of countries see a weaker exchange rate as a way to lift their economies.

The issue of fears that countries were undertaking competitive devaluations was something which raised a spectre of the 1920s being repeated. I note that Wikipedia calls it the Currency War of 2009-11 which is in my opinion around 7 years too short as of the countries mentioned back in the FT article some are still singing the same song and of course Japan redoubled its efforts and some with the advent of Abenomics.

The Euro

It was only last week that we looked at the way Germany has undertaken a stealth devaluation ironically in full media view via its membership of the Euro. But also of course if QE is a way of weakening your currency then the ECB ( European Central Bank) has had the pedal to the metal as it has expanded its balance sheet to around 4.5 billion Euros. On this road it has become something of an extremely large hedge fund of which more later but currently hedge funds seem to be fans of this.

If we combine this with the positive trade balance of the Euro area which has been reinforced this morning by Germany declaring a 25.4 billion current account surplus in November we see why the Euro was strong in the latter part of 2017. We also see perhaps why it has dipped back below 1.20 versus the US Dollar and the UK Pound £ has pushed above 1.13 to the Euro as currency traders wonder who is left to buy the Euro in the short-term?

But let us move on noting that a deposit rate of -0.4% and QE of 30 billion Euros a month would certainly have been seen as a devaluation effort back in September 2010.

Turning Japanese

Has anyone tried harder than the Japanese under Abenomics to reduce the value of their currency? We have seen purchases of pretty much every financial asset ( including for newer readers commercial property and equities) as the Bank of Japan balance sheet soared soared to nearly ( 96%) a years economic output or GDP. This did send the Yen lower but in more recent times it has not done much at all to the disappointment of the authorities in Tokyo. Is that behind this morning’s news that the Bank of Japan eased its bond buying efforts? Rather than us turning Japanese are they now aping us gaijin? It is too early to say but it is intriguing to note that December was a month in which the Bank of Japan’s balance sheet actually shrank. Care is needed here as for example the US Federal Reserve is in the process of shrinking its balance sheet but some data has seen it rise.

Perhaps the Bank of Japan should play some George Michael from its loudspeakers.

Yes I’ve gotta have faith…
Mmm, I gotta have faith
‘Cause I gotta have faith, faith, faith
I gotta have faith-a-faith-a-faith

South Korea and the Won

Last week we got a warning that a new currency wars outbreak was on the cards as this was reported. From CNBC.

South Korea’s central bank chief said that the bank will leave its currency to market forces, but would respond if moves in the won get too big. Lee Ju-yeol said the Bank of Korea will take active steps when herd behavior is seen.

Not quite a full denial but yesterday forexlive reported something you are likely to have already guessed.

Bank of Korea is suspected to have bought around $1.5 billion in USD/KRW during currency trading today.

As we wonder what herd was seen in the Won as of course the “Thundering Herd” or Merrill Lynch is no longer with us? Also as this letter from the Bank of Korea to the FT last year confirms Korea does not play what Janet Kay called “Silly Games”.

First, Korea does not manage exchange rates to prevent currency appreciation. The Korean government does not set a specific target level or direction of the exchange rate. The Korean won exchange rate is basically determined by the market, and intervention is limited to addressing disorderly market movements.

Next time lads it would be best to leave this out.

Second, Korea’s current account surplus should not be understood as evidence of its currency undervaluation.

Of course not. Anyway the Won has been strong.

The South Korean currency surged almost 13 percent last year, as an expanding trade surplus and the nation’s first interest-rate increase in six years boosted its allure. (Bloomberg).

Another way of looking at that is to look back over the credit crunch era. We do see that the Won dropped like a stone against the US Dollar to around 1600 but with ebbs and flows has returned to not far from where it began to the 1060s. Of course we can get some more insight comparing more locally and if we look at the real trade-weighted exchange rates of the BIS ( Bank for International Settlements) then there was a case against the Yen in fact a strong one. Compared to 2010= 100 the Japanese Yen was at 73.7 ( see above) but the Won was at 113. However the claim of a strong currency might get the Chinese knocking at the South Korean’s door as the Yuan was at 121.4.


Perhaps the Chinese are now on the case as Bloomberg reports.

The yuan, which headed for its biggest drop in two months on the news, is allowed to move a maximum of 2 percent either side of the fixing. Analysts said the change shows China is confident in the yuan’s current trajectory, which has been one of steady appreciation.

Hedge Fund Alert

There are two pieces of good news for the modern theory of central banks morphing into hedge funds around this morning so let us first go to Switzerland.

According to provisional calculations, the Swiss National Bank (SNB) will report a profit in
the order of CHF 54 billion for the 2017 financial year. The profit on foreign currency
positions amounted to CHF 49 billion. A valuation gain of CHF 3 billion was recorded on
gold holdings. The net result on Swiss franc positions amounted to CHF 2 billion

With all that profit the ordinary Suisse may wonder why they are not getting more?

Confederation and cantons to receive distribution of at least
CHF 2 billion

Whilst the SNB behaves like a late Father Christmas those in charge of the ever growing equity holdings at the Bank of Japan may be partying like it is 1999 and having a celebratory glass of sake on this news.

Japan’s Nikkei 225 reaches fresh 26-year high; ( FT)

Meanwhile a not so polite message may be going from the ECB to the Bank of Finland.

The European Central Bank has sold its bonds of scandal-hit retailer Steinhoff , data showed on Monday, potentially suffering a loss of up to 55% on that investment. (Reuters)


So there you have it as we see that the label “currency wars” can still be applied albeit that the geography of the main outbreak has moved across the Pacific. Actually Japan was always in the game and it is no surprise that its currency twin the Swiss Franc is the other central bank which has become a subsidiary of a hedge fund. That poses a lot of questions should the currency weaken as the Swissy has albeit so far only on a relatively minor scale. There have been discussions so far this year about how bond markets will survive less QE but I do not see anyone wondering what might happen if the Swiss and Japanese central banks stopped buying equities and even decided to sell some?

For all the fire and fury ( sorry) there remains a simple underlying point which is that if one currency declines falls or devalues then others have to rise. That is especially awkward for central banks as they attempt to explain how trying to manipulate a zero-sum game brings overall benefits.



12 thoughts on “The link between “currency wars” and central banks morphing into hedge funds

  1. Shaun,
    Wolf Street reports as part of MiFD II EURegs Switzerland granted only 1 year further access to the single market citing further progress on common institutional framework needed. – familiar tactics to Brexit leading to Swiss referendum?

  2. Great blog as usual, Shaun.
    Speaking of currency wars, it looks like Bank of Canada Governor Stephen Poloz’s currency war with the United States was ended by American threats to tear up NAFTA if he didn’t cease and desist. This is. of course. a conspiracy theory with no hard evidence for it, but from May 2013 to May 2017, the month the Canadian government announced the NAFTA talks would start in August, the loonie declined against the US greenback by 7.0% at an annualized rate. From May 2017 to December 2017 it has risen against the US dollar at an 11.5% annualized rate, in large part due to interest rate hikes in July and September. All the pundits seem to have pencilled in a hike in the overnight rate to 1.25% next Wednesday, the first time that it will have been that high since Carney dropped it to that level from 2.25% in December 2008. The winter Business Outlook Survey released by the Bank of Canada yesterday showed that most respondents believed inflation over the next two years would be between 1% and 2%, and absolutely no-one thought it would exceed the 3% upper bound, so if Governor Poloz seriously believes in a two percent inflation target as he claims to, there is not much of a case for an interest rate hike.It looks like he is now being pressured to keep pace with the US Fed’s interest rate hikes, where previously he saw them as opportunities to drive down the loonie.

    • Hi Andrew

      I think that views on the interest-rate have been influenced by the labour market report from Friday.

      ” The unemployment rate continued on a downward trend, decreasing by 0.2 percentage points to 5.7%, the lowest since comparable data became available in January 1976……..The additional employment in December builds on growth observed in October and November. This boosted gains for the fourth quarter to 193,000 or 1.0%, the most robust rate of quarterly growth since the second quarter of 2010……..In 2017, employment increased by 423,000 (+2.3%), the fastest December-to-December growth rate since 2002″

      Of course what is also needed is some sustained (real) wage growth in response to the perceived “overheating”. I have covered that issue many times!

  3. The Nikkei reaches a 26 year nominal high but it is still 16000 below its all time nominal high of almost 30 years ago will we be saying similar things about the Dow and S&P in decades to come,it was demonstrated on srsrocco site last year that there is a strong correlation between US national debt and the Dow going back to 1980.
    The free marketeers are silent on all this market interference so it’s all right to have socialism in finance with the state bankrolling markets,but nationalisation is an abomination.
    The fall in the value of sterling following the Brexit vote was spun as some sort of bonus for exporters by the media,the fact is our money lost 15-20% of its purchasing power,how is that beneficial?
    As you point out as one currency falls another rises but the fiat currency is a debt based instrument of exchange global debt has risen by another $16T in the first 9 months of 2017 to$233T the tide is rising and before much longer many will be under water.
    To put that in perspective if you had spent a million a day for the last 2000 years you would still only have spent around 700 Billion.
    Currency wars and QE will not change the final outcome which will make the crash of 1929 look like a windfall.
    The iceberg is dead ahead exact distance unknown but those on the bridge appear to be in denial about the need to alter course and speed.

    • Good post. You might find Douglas Carswell’s book interesting. He chronicles a pattern of growth and decline where (in many different civilisations), there are productive growth periods followed by a small group of parasites taking over and
      1. Skewing the economy toward themselves
      2. Taxing the productive sector
      3. Enriching themselves
      4. Debasing the currency
      I’m afraid that it all ends in tears over time!
      I’m just about to listen to Jamie Dimon speak so I’ll be very well informed as to parasites shortly.

  4. Just saw an article on zero hedge saying the Swiss National Bank is showing a return of $55B on its investments for 2017 equivalent to 8% of GDP….I would suggest quit while your ahead might be appropriate or perhaps this will encourage the others to get openly involved in the markets…what could go wrong?

    • Hi PrivateFraser

      Profits can at least in part be handed over to the state which means that politicians/governments will become addicted. How long will it be before they are encouraged to do more? Once it goes wrong we can be sure that it could not have been reasonably expected and that nobody ( apart from perhaps some terrorist style bloggers) is to blame.

  5. If only there was a global decentralized currency that was finite and not at the mercy of central bank manipulation…
    Foolishly or not, watch billions more flow into cryptocurrencies as central banks compete to destroy value of their own currencies.

    • Hi Bobby and welcome to my corner of the online world.

      Gold? Other precious metals as silver was used in the past? Either have the problem described in Arthur C. Clarke’s 2061. Any other form would likely come under the control of the IMF and it would thereby gain incredible power. Mark Carney would redouble his efforts to be the next head of it as well.

      • Hi Sean,
        Thanks for the response, been following you and enjoying your blog for some time; it offers a great perspective on economic issues that are often not covered elsewhere, so much appreciated.

        I’m sure it was not an oversight, but rather than precious metals it was cryptocurrency that was being alluded to. While the battle to devalue fiat currency escalates, some of the more well informed are building positions in crypto’s (other than bitcoin) that can be securely held on your person and traded peer to peer in a matter of minutes with other global participants, completely bypassing banks, governments and other financial institutions.
        If the holy grail of higher inflation is achieved, certain cryptocurrencies with their finite supply could start to look even more favorable, particularly if you are from Italy!

        (Unfortunately my literary experience has not yet extended to Odyssey 2061, so I may have missed something!)

  6. It is not actually true that devaluation of your currency is a zero sum game, all countries can weaken their currencies at the same time. Consider country A prints money to buy Country B currency and vice versa. The net effect is an expansion of the money supply in both countries and the currency rates can remain stable against each other. The expansion of the money supply would lead to higher inflation of course in each country, but in a case of a deflationary environment that is no bad thing. Abonomics has been highly successful are reversing deflation in Japan, boosting NGDP, per capita GDP and lowering unemployment to 2.7%, if the US is worried about its trade deficit so much vs Japan go ahead and do the same thing as them.

    Another thing – don’t you ever wonder Sean about some of the contradictory things you write – for instance worrying that stopping QE will increase bond yields but also worrying all the time that QE is creating inflation? How can both be true?

    On the subject of central banks acting like hedge funds by buying assets with printed money, why not? I wish people would give me real assets like gold in return for printed pieces of paper. There are so many failed prophets hereon this site- we have had QE for more than 10 years now, with “bloated” balance sheets, so when will the forecast hyperinflation happen?

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