After writing Friday’s piece on currency wars, it occurred to me that some of the assumptions baked into my argument warranted a closer look. Essentially, instead of a war, I believe we’re seeing an economic readjustment, which is a significantly different way of looking at the situation.
The gap between the currency war viewpoint and the economic readjustment viewpoint largely stems from two differences in underlying assumptions:
- Whether you view currencies as absolute or relative entities
- The primary orientation of governments (external or internal)
Currency changes: no longer a zero-sum game
The era of the last major currency wars, between the two World Wars, illustrates quite well what I’m talking about here. I did a review some time ago of a very good book on this era, but for purposes of our discussion today, let’s summarize.
Briefly, the central problem in that era was the gold standard. With exchange rates fixed against gold, countries really were competing directly against each other for that gold. They couldn’t simply change the value of their currency; it was an absolute. Today, we can see this in the struggles of countries in the eurozone—Greece in particular—where the euro is held as an absolute.
The gold standard, in particular, was very good at retaining the value of a currency at an absolute level over time, and this took discretion away from the governments. Since then, of course, the world has gone off of the gold standard to what are called fiat currencies, which have no absolute standard and no fixed value, and depend solely on governmental support. Because of this, comparing currencies with each other is no longer an exercise in absolutes, but a relative comparison.
This is a key issue when considering the idea of currency wars. An absolute relation means that any changes a government makes to its currency are zero-sum—one country’s gain is another’s loss. A relative relationship, on the other hand, can be positive-sum, with both countries gaining. Zero-sum versus positive-sum is the difference between war and adjustment.
Governments increasingly look inward
The second major difference in today’s situation is the orientation of governments—by which I mean the intention of policy changes.
I would argue that in most of the last century, governmental policies were driven largely by international relations. France made policy based on what benefited its international position, rather than what benefited the French population. Again, the gold standard gives us a good example: recessions and depressions caused by adjustments to conform to the gold supply were considered necessary and unavoidable.
Nowadays, we can see the effects of this type of policy in Greece, Spain, and even France—and the populations (and governments) are much less accepting. Countries versus countries is war. Countries trying to improve economic situations for their citizens is adjustment.
Things are just different now
These two points outline why today’s “currency wars” are different from those of the past. First, even as currencies change in value, there is no absolute standard. Second, countries are now making decisions based more on what is best for their populations, rather than international competition.
What does this mean today?
- It means Japan and Europe aren’t aiming to take down the U.S. in international trade. Rather, they’re desperately trying to spark jobs and growth.
- It means that the value of the yen and euro may bounce around, relative to the dollar and each other, but those changes are not pure gain or loss.
- It means that the U.S. can actually benefit—in the form of increased exports, for example—as growth elsewhere increases, driven by lower currency values.
In short, the idea of “currency wars” is based on the underlying ideas of international competition and zero-sum games, neither of which apply to nearly the degree they used to. A currency war simply doesn’t fit the way countries operate today.
Europe is a great illustration of many of the points I’m making here, and we will take a look at that next.