The Race to the Bottom

[jay21]

The WSJ had a good article on Israel's rate cuts and FX buying program (title:  Banks Rush to Ease Supply of Money )

 

http://online.wsj.com/article/SB10001424127887324216004578481283977918230.html?mod=ITP_pageone_2

 

Is there any other time in history where something similar has happened?  I am trying to get a sense for the potential outcomes of every major central bank cutting rates and devaluing their currency.  It also makes me wonder about the efficacy of central banks if other central banks are forced to adopt offsetting policies due to distortions in their economy.

[mcliu]

That's an interesting question. I would like to see some data for that as well.. Or maybe we're just in unprecedented territory..

[jay21]

Taiwan having similar problems with the changes in FX rates and their central bank is intervening to try to assuage the problems

 

http://online.wsj.com/article/SB10001424127887324767004578488682893945140.html?mod=ITP_moneyandinvesting_1

[twacowfca]

The WSJ had a good article on Israel's rate cuts and FX buying program (title:  Banks Rush to Ease Supply of Money )

 

http://online.wsj.com/article/SB10001424127887324216004578481283977918230.html?mod=ITP_pageone_2

 

Is there any other time in history where something similar has happened?  I am trying to get a sense for the potential outcomes of every major central bank cutting rates and devaluing their currency.  It also makes me wonder about the efficacy of central banks if other central banks are forced to adopt offsetting policies due to distortions in their economy.

 

Doubling the money supply over time will cut the value of each unit of currency in half as the increase works it's way through the system first through inflation of financial assets and then through other prices.  Actually, prices won't quite double, because there will probably be some increase in productivity while the increase in the money supply worked its way through the system. The effect on other prices is muted now because most of the world is recovering from a supercycle.

 

Eventually,  few if any countries will gain advantage from these moves to devaluation, but the whole system will see debtors relieved of half of their payment burden in real terms, and debt holders in aggregate will find that the real value of what they hold is worth half as much. 

 

Holders of short term debt will be able to sail on that sea in calmer waters than holders of long term debt, but will never the less find that the real value of their holdings is cut in half.  Holders of long term debt will take the biggest hit as rates eventually increase to compensate for loss in purchasing power.

 

Equity holders will find themselves in the stormiest seas, but eventually see their coupons reset to a higher nominal rate to compensate for their real loss in purchasing power.

 

:)

 

:)

[Palantir]

^Increasing "money supply" is only increasing one component of the money supply, there are others that will not necessarily double.  We need credit growth and growth in velocity before we can see asset price inflation...

[twacowfca]

^Increasing "money supply" is only increasing one component of the money supply, there are others that will not necessarily double.  We need credit growth and growth in velocity before we can see asset price inflation...

 

Yup, but eventually the increase in money will work its way through the financial system as those other factors normalize or regress to their means.

[jay21]

I was more discussing the FX programs because I haven't heard that before.  It seemed to come off as more manipulative to me than rate cuts (but that's probably because I have seen rate cuts before in history and therefore I accept them).

 

Here's another article from the WSJ that's a little more direct and calling these programs "Currency Wars"  http://online.wsj.com/article/SB10001424127887323336104578498850092225808.html?mod=ITP_pageone_1  ( title: Defining Moments in So-Called Currency War )

 

"Yet some countries are manipulating currencies, depressing them to preserve big export surpluses by selling huge amounts for dollars or euros. China is the biggest perpetrator, but not the only one. Mr. Bergsten and colleague Joseph Gagnon have a list of more than 20—Denmark, Hong Kong, Malaysia, Singapore, Switzerland and others.

 

For these countries, lower exchange rates aren't a byproduct of economic policies crafted to bolster domestic growth, but the primary instrument. They're substituting cheaper exchange rates for other policies that might achieve the same end. They are, Mr. Bergsten shouts, helping themselves by hurting others, the U.S. in particular."