What are currency wars?
b. why do nations engage in currency wars?
c. who gains and who loses?
d. explain the economic implications on warring nations using a specific example?
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A currency war refers to a situation where a number of nations seek to deliberately depreciate the value of their domestic currencies in order to stimulate their economies. Although currency depreciation or devaluation is a common occurrence in the foreign exchange market, the hallmark of a currency war is the significant number of nations that may be simultaneously engaged in attempts to devalue their currency at the same time.
Are We in a Currency War?
A currency war is also known by the less threatening term "competitive devaluation." In the current era of floating exchange rates, where currency values are determined by market forces, currency depreciation is usually engineered by a nation's central bank through economic policies that may force the currency lower, such as reducing interest rates or increasingly, "quantitative easing (QE)." This introduces more complexities than the currency wars of decades ago, when fixed exchange rates were more prevalent and a nation could devalue its currency by the simple expedient of lowering the "peg" to which its currency was fixed.
"Currency war" is not a term that is loosely bandied about in the genteel world of economics and central banking, which is why former Brazilian Finance Minister Guido Mantega stirred such a hornet's nest in September 2010 when he warned that an international currency war had broken out. But with more than 20 countries having reduced interest rates or implemented measures to ease monetary policyfrom January to April 2015, the trillion-dollar question is – are we already in the midst of a currency war?
Why Depreciate a Currency?
It may seem counter-intuitive, but a strong currency is not necessarily in a nation's best interests. A weak domestic currency makes a nation's exports more competitive in global markets, and simultaneously makes imports more expensive. Higher export volumes spur economic growth, while pricey imports also have a similar effect because consumers opt for local alternatives to imported products. This improvement in the terms of trade generally translates into a lower current account deficit (or a greater current account surplus), higher employment, and faster GDP growth. The stimulative monetary policies that usually result in a weak currency also have a positive impact on the nation's capital and housing markets, which in turn boosts domestic consumption through the wealth effect.
Beggar Thy Neighbor
Since it is not too difficult to pursue growth through currency depreciation – whether overt or covert – it should come as no surprise that if nation A devalues its currency, nation B will soon follow suit, followed by nation C, and so on. This is the essence of competitive devaluation.
This phenomenon is also known as "beggar thy neighbor," which far from being the Shakespearean drama that it sounds like, actually refers to the fact that a nation which follows a policy of competitive devaluation is vigorously pursuing its own self interests to the exclusion of everything else.
Are We in a Currency War?
A currency war is also known by the less threatening term "competitive devaluation." In the current era of floating exchange rates, where currency values are determined by market forces, currency depreciation is usually engineered by a nation's central bank through economic policies that may force the currency lower, such as reducing interest rates or increasingly, "quantitative easing (QE)." This introduces more complexities than the currency wars of decades ago, when fixed exchange rates were more prevalent and a nation could devalue its currency by the simple expedient of lowering the "peg" to which its currency was fixed.
"Currency war" is not a term that is loosely bandied about in the genteel world of economics and central banking, which is why former Brazilian Finance Minister Guido Mantega stirred such a hornet's nest in September 2010 when he warned that an international currency war had broken out. But with more than 20 countries having reduced interest rates or implemented measures to ease monetary policyfrom January to April 2015, the trillion-dollar question is – are we already in the midst of a currency war?
Why Depreciate a Currency?
It may seem counter-intuitive, but a strong currency is not necessarily in a nation's best interests. A weak domestic currency makes a nation's exports more competitive in global markets, and simultaneously makes imports more expensive. Higher export volumes spur economic growth, while pricey imports also have a similar effect because consumers opt for local alternatives to imported products. This improvement in the terms of trade generally translates into a lower current account deficit (or a greater current account surplus), higher employment, and faster GDP growth. The stimulative monetary policies that usually result in a weak currency also have a positive impact on the nation's capital and housing markets, which in turn boosts domestic consumption through the wealth effect.
Beggar Thy Neighbor
Since it is not too difficult to pursue growth through currency depreciation – whether overt or covert – it should come as no surprise that if nation A devalues its currency, nation B will soon follow suit, followed by nation C, and so on. This is the essence of competitive devaluation.
This phenomenon is also known as "beggar thy neighbor," which far from being the Shakespearean drama that it sounds like, actually refers to the fact that a nation which follows a policy of competitive devaluation is vigorously pursuing its own self interests to the exclusion of everything else.
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A currency war is when a nation's central bank uses expansionary monetary policy to lower the value of its money. Low currency values aid exports by making them cheaper in comparison to other countries' exports. That helps businesses and boosts economic growth. It also makes imports more expensive. That hurts consumers and adds to inflation.
Most countries are on a flexible exchange rate. They must increase the money supply to lower the currency's value. A central bank has many tools to increase the money supply by expanding credit. It can lower interest rates. It can also just add credit to a nation's bank reserves.
Country with higher currency rate gains & the other loses.
The implications on warring nations are
Most countries are on a flexible exchange rate. They must increase the money supply to lower the currency's value. A central bank has many tools to increase the money supply by expanding credit. It can lower interest rates. It can also just add credit to a nation's bank reserves.
Country with higher currency rate gains & the other loses.
The implications on warring nations are
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