LAHORE: Rising demand for the Yuan in Hong Konghas ignited debate over whether the local dollar’s 27-year peg to the US dollar should be switched in favor of a linkage to mainland China’s currency.
Yuan deposits in HK’s banks more than doubled to a record $ 22 billion in the last six months.
The Hong Kong dollar was Asia’s weakest performer in 2010; its pegged exchange rate means that the monetary policy is largely determined by the course the US currency takes.
Unemployment figures verging on ten percent and domestic politics compelled the Federal Reserve (Fed) to maintain near-zero interest rates and the printing of money to sustain economic growth. Meanwhile the greenback is at a 15-year low against the yen.
The US dollar declined to 1.3972 against the euro on October 29. The Federal Reserve is purportedly above politics and determines the monetary direction of the U.S economy.
However, it is readily apparent that its policy decisions are not completely immune to the political climate. As the Democrats have suffered a crushing defeat in the House of Representatives, and hold a slender majority in the Senate; it becomes harder for the Democrats to push through its agenda. More fiscal support to the economy becomes a more difficult prospect.
This will render the Fed as the sole support to the limping economy and the only tool at its ready disposal is the monetary policy. Usually, the Fed studiously avoids all involvement in politics and maintains silence during elections.
This time however, the central bank made clear its intent that it would undertake appropriate action such as quantitative easing (QE2) measures in an effort to boost the economy and reduce the stubbornly high unemployment rate.
The measures were introduced in the aftermath of the Democrat’s debacle. Republicans have fervently opposed the previous $814 billion stimulus package. They claim doesn’t seem to have benefited the housing or job market in any significant manner, tapping into public discontent with the slow pace of recovery.
They have been vocal in their firm rejection of any further spending by the government.
Problems at the domestic level in the US affect the global economy because of the integral role of the greenback. A strong yen adversely affects the Japanese economy and exports, even though the government intervened last month by selling the yen and keeping interest rates close to zero, the yen is nearly at a post war high. The Euro too has appreciated consistently over the year.
The phenomenon is very troubling in the context of the existing economic disparities within the Eurozone. Greece is expected to default in three years and has been battered by nationwide protests against austerity measures.
France has also tightened its belt, while Spain is lagging as well. Germany has boosted exports and is the biggest contributor to the rising Euro. The UK too, would like to see a weaker currency and has taken measures to lessen its deficit as well.
While the UK, the Eurozone and Japan would like to weaken their currencies against the greenback, the quantitative easing measures that Bernanke unveiled are going to have the opposite effect of strengthening their currencies. Commodities like gold, copper, oil, wheat become all the more expensive.
As a retaliatory measure, it can be expected that the other countries might introduce their own quantitative easing measures, pumping in money into their respective economies causing massive distortions in the global economy.
While the US government continues to harangue the Chinese on the appreciation of the Yuan; quantitative easing is a source of discomfort and its detractors feel it may trigger inflation. As a consequence of this, each country may act independently to make its currency weaker and benefit from it.
Currency wars remain a very real possibility. They will drive commodity prices up, currency value down and hold enormous ramifications for the global economy.
