G-7 Dubai WSJOP-ED: G7 Dubai Meeting Could Disappoint Currency Market
DOW JONES NEWSWIRES
(This is one of a series of occasional opinions columns by market participants)
By Marc Chandler
DOW JONES (New York)--Cooperation among the major industrialized countries to coordinate macroeconomic and foreign exchange policies has usually been exaggerated.
Since the Plaza Accord in 1985 designed to drive down the value of the dollar, meetings of the Group of Seven industrialized nations have generally not been significant for the foreign exchange market.
Some hope that may change with the meeting this weekend in Dubai since a number of officials have indicated that currencies will be a key topic of discussion. And although expectations are running high, the risk is that the market will be disappointed, helping the dollar recover some lost ground against the yen.
The key issue for the foreign exchange market is the adjustment of the dollar's value against Asian currencies.
To the extent that there is a consensus among the G7 and the International Monetary Fund, it's that the dollar is overvalued based on the U.S. large and growing external deficit.
The major European currencies and the dollar-bloc have thus far borne the brunt of the adjustment. Yet given the U.S. trade patterns, a dollar adjustment against the Asian currencies is desirable.
The main sticking point, of course, is that most Asian countries have either a pegged regime (China, Hong Kong, Malaysia) or closely managed currencies (Japan, South Korea, Taiwan, Singapore, and Thailand).
Another problem is that most of the key figures won't be present to address these issues. In a way, this meeting reminds me of an old Aesop fable about a bunch of mice deciding that a bell around the cat's neck would give ample warning of danger. But of course, no mouse volunteered to tie the bell to the cat.
Japan's Finance Minister Masajuro Shiokawa will not be part of the meeting. He has been sick, but he is expected to be a victim of a cabinet reshuffle that is thought likely after the Liberal Democratic Party leadership election. It is not clear yet who would succeed him. It's also worth noting that other Asian officials, including the Chinese, do not attend G7 meetings.
But even among those expected to participate it does not appear that there is a strong consensus to pressure China (and by extension, other Asian countries) to change their currency regime.
In some respects, one might expect European officials to be sympathetic. The euro is bearing a good part of the dollar's adjustment and arguably a further strong rise in the euro would threaten the recovery.
Yet European Central Bank President Duisenberg, who retires at the end of next month, has intimated that he is not very sympathetic to the focus on the Asian currencies, which he viewed as a distraction to the what he thinks is the real problem - the U.S. current account deficit and the growing budget deficit.
Other European officials seem to suspect that a dramatic change in the Asian currency regimes might not take some of the upside pressure off the euro, but instead trigger a dramatic slide in the U.S. dollar.
Then there are growing suspicions that the U.S. pressure is a function of domestic politics. Since the start of the Bush Administration (2001), the U.S. has lost around three million jobs. Many small manufacturers, especially in the textile, footwear, toys, and furniture industries, have complained loudly about China's penetration of the U.S. market.
In recent weeks, there have been a number of protectionist threats, with bills being proposed in both houses of Congress. A careful examination of the issues would suggest that the main two sources of American job loss are cyclical and technologically driven.
Even leaving aside these issues, it seems patently clear that neither China nor Japan are about to succumb to what is perceived to be largely U.S. pressure. In fact, the IMF seemed to be subtly encouraging Japan to resist the upward pressure on the yen, noting that a further dramatic strengthening of the currency could derail the budding recovery.
U.S. Treasury Secretary Snow appears to have been rebutted during his recent trip to Asia. While the threats of protectionism need to be taken seriously, especially given the U.S. electoral cycle, it is not clear that tariffs on Chinese goods, which have been proposed for example, will pass the World Trade Organization's mustard.
It is difficult therefore, to envisage a realistic scenario of how the U.S. can pressure China into bringing forward its goal of a more flexible currency regime, without cutting the nose to spite the face.
In a larger sense, the G7 needs to avoid what Keynes called asymmetrical adjustments. Traditionally the deficit country has to bear the burden of the required adjustment. The main exception to this general rule was the European Exchange Rate Mechanism, which required both the strong currency country and the weak currency country to defend the pre-determined bands.
An asymmetrical approach to the U.S. current account deficit would entail a dramatic increase in U.S. savings, a sharp slowdown in the economy, and a general decline in the U.S. standard of living. It would also risk a global downturn, given the role of the U.S. as the consumer of last resort.
In as much as the U.S. current account deficit is a threat to the world economy, an asymmetrical solution would be counterproductive.
A symmetrical adjustment however needs to include the development of Asian capital markets, so they can absorb the region's vast pool of savings. It would also require liberalizing the trade regimes that would allow greater imports.
Indeed, part of the problem is that the restructuring and reforms following the Asian 1997-1998 financial crisis is incomplete. Many countries in East Asia still adhere to the export-driven model of growth.
Even if there was a consensus on these issues, the G7 needs to be careful what it wishes for. A more flexible currency regime in China could include a basket approach, which has previously been discussed.
Given China's trade flows, the yen would likely be in such a basket. In the first instance this may require China to buy yen and sell dollars, an approach that would not address the challenges that Japan has identified.
Another alternative that has been proposed is to allow the yuan to float. Because of China's trade surplus and foreign direct investment inflows, many expect that the yuan would strengthen though that is far from a guaranteed outcome.
By Marc Chandler; Marc.C.Chandler@us.hsbc.com
(Marc Chandler is Chief Currency Strategist at HSBC USA in New York, which advises institutional currency market participants on a real time basis. Both the author and HSBC currency desk trade in currency markets. Opinions expressed are those of the author, not of Dow Jones Newswires.)
Updated September 19, 2003 10:50 a.m.
I thought thi might be of some interest. Devon