Analysis: Are Currency Wars Looming in Asia?

By Tom Wright 

        Does the rising wave of surprise interest-rate cuts in Asia portend a currency war?
        Central bankers won't let the term leave their lips. Bank of Korea Gov. Lee Ju-yeol on Thursday, in announcing an interest-rate cut to a record low 1.75%, was studious in denying such a thing existed.
        Yet both South Korea and Thailand, which cut rates on Wednesday, have reason to worry about the strengthening of their currencies.
        The won has lost value against a resurgent U.S. dollar, but has strengthened 10% against the euro since the start of 2015. It is also up 10% against the Japanese yen over the past year.
        South Korea long has complained about the yen's weakness, which is making it harder for its exporters to compete.
        Now, a steep fall in the euro is adding to the complications. South Korea's exporters of automobiles and ships compete directly with European producers.
        "Korea exports a significant volume to the eurozone," Mr. Lee acknowledged. "The fluctuating euro can affect Korea's exports as much as the fluctuating yen."
        Mr. Lee deflected questions about a currency war, noting that extraordinary monetary easing under way in Europe and Japan is an attempt by policy makers to increase demand at home--and not aimed at weakening exchange rates.
        The European Central Bank this week began printing money to buy government bonds, an attempt to stir activity in an economy where short-term interest rates are close to zero. Japan is engaged in a similar project.
        The EU's so-called quantitative easing, coupled with negative interest rates, has led to capital flight from Europe, depressing the euro and pushing down global bond yields.
        There is a view that, in the end, these attempts to boost demand are good, as they may help lift demand in Europe and Japan for Asia's exports. Others argue countries are just stealing demand from one another with no overall gains.
        But in the short run there is likely to be some dislocation. When the U.S. ramped up its bond-buying program in 2010, the dollar declined and countries like Brazil shouted currency war.
        It is hard not to see the rash of surprise monetary easing by central banks in Asia this year, from China to India and Singapore, in the context of looking for export advantage.
        South Korea regularly intervenes in its currency market. Some economists said the rate cut on Thursday was primarily aimed at weakening the won. The currency fell 0.5% against the dollar and 0.7% versus the euro on the news.
        Thailand's decision to cut rates Wednesday also helps its exporters, who have been complaining recently about the baht currency's relative strength.
        No matter what the rhetoric is from central bankers, many of them are hoping that rate cuts help lower the value of their currencies versus those of their neighbors.
        "They're thinking of it in the context of currency wars," said David Mann, chief economist in Asia at Standard Chartered Bank.
        Mr. Lee, the central bank governor, preferred to paint lower rates as an attempt to help South Korea's economy. The export-dependent economy is facing headwinds because of weak demand from the U.S. and Europe.
        At home, a fast-aging population, a household debt overhang and stagnant wages have dragged on demand. Consumer inflation in February was at more than a 15-year low.
        Some economists question whether lower interest rates can help boost demand in such a situation, as household debt already is at levels higher than the U.S. before its subprime crisis, and consumers are focused on repaying borrowings. Two rate cuts last year have failed to spur domestic consumption.
        "It's not so much how the cut in interest rates will shore up domestic demand. They're just trying to not lose any more from the export side," said Santitarn Sathirathai, an economist with Credit Suisse.
        Mr. Lee admitted the effects of the rate cuts so far have been neutered by the headwinds facing the Korean economy, but he was confident they will eventually show through in the data.
        One risk is that a loose monetary policy could leave countries exposed to capital outflows when the U.S. Federal Reserve starts raising rates, possibly later this year. But the exodus of capital from the eurozone, some of it to Asia, tempers that worry. In South Korea's case, a current-account surplus also makes it less dependent on hot money inflows (unlike Indonesia, which economists think will be careful before cutting again).
        Even if it isn't immediately effective, cutting rates aggressively might be the only option for South Korea, which is worried about tipping into a Japan-like cycle of low demand and falling prices, said Mr. Mann of Standard Chartered.
        It isn't there yet--the economy is set to grow more than 3% this year--but there are signs of weakness.
        "When you see that risk," Mr. Mann said, "the only thing to do is ease as quickly as possible."
        Write to Tom Wright at tom.wright@wsj.com
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        (END) Dow Jones Newswires

        March 12, 2015 04:23 ET (08:23 GMT)

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