How Central Bank Policy Impacts Asset Prices Part 3: FX
The actions of the world's central banks, from driving rates to the limit or beyond ZIRP into the unconventional moeny-printing (or more acquiescent QE), there is little doubt that the currency wars are under way. As SocGen notes, the spillovers from advanced economies' actions (exporting inflation) into EM currency appreciation create subsequent needs for EM bank actions at times when inflationary concerns remain high. With the Yuan at 19 year highs and suffering from outflows, the potential for QE-based inflows this time could be welcome by the CCP.
Major stimulus in September & currency wars
Following the unlimited stimulus announced by the ECB in September, the Fed responded by an open-end QE3, while the BoJ extended its asset purchase by 10 tn yen shortly after.
Are the Fed and the ECB working together for zee stabilitee or are they antagonistic (relative to one another things appear flat on the year but as below USD TWI is notably lower)...
Successive easing policies from these 3 large economies and lower uncertainty in financial markets have been a bullish signal for EM currencies.
To prevent currency appreciation and hot money inflows, central banks retaliated with rate cuts notably in Korea, Brazil, Thailand and the Philippines. Inflation risk could grow in some of these economies.
China better off with QEs this time
The yuan is “near equilibrium rate” according to China’s central bank, meaning a currency war has been avoided for now. The PBoC is currently focusing on price stability and increasing exchange rate flexibility rather than weakening the yuan.
Recent yuan strengthening should provide support to domestic demand which is necessary in the context of a global economic slowdown.
Moreover, both exports and imports improved in September, a signal that China’s economy may be benefiting from positive spillovers from global easing conditions.
Capital inflows resulting from QE programmes are welcome this time (at least in the short term), as the country has been struggling with outflows for the past six months.