Currency war bad for global recovery

08:33, October 08, 2010      

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World leaders must defuse currency tensions before they worsen to avoid repeating the mistakes of the Great Depression, the head of the World Bank said.

The spirit of global economic cooperation, first forged in 2008 during the darkest days of the financial crisis, has weakened as the recession gives way to an uneven and shaky recovery, the head of the International Monetary Fund also warned.

Fears of a global currency war as nations look to export their way to economic health have jumped to the top of the agenda at IMF and World Bank meetings this weekend in Washington D.C.

The push among nations for a trading edge, reminiscent of the strains that exacerbated the Great Depression, are also expected to be a primary topic of discussion when Group of Seven finance leaders hold a closed-door dinner on Friday.

The meetings provide a forum for intense discussions about efforts to persuade China to let its yuan rise further, the weakening in the U.S. dollar, and the strengthening of emerging market currencies as investors chase higher yields.

"If one lets this slide into conflict, or forms of protectionism, then we run the risks of repeating the mistakes of the 1930s," World Bank President Robert Zoellick told reporters at a briefing.

Finance ministers from the Group of 20 rich and emerging economies hold a working breakfast on Friday, but that meeting will focus on the separate, touchy issue of giving emerging markets more power at the IMF.

The IMF trimmed its 2011 growth forecast for advanced economies on Wednesday and warned the task of reducing heavy government debt burdens, while essential, would act as a significant drag on growth.
Slow growth at home leaves countries unusually reliant on exports, heightening concerns they will intentionally weaken their currencies to boost trade.

Zoellick said history shows "beggar thy neighbor" policies don't work, and suggested international agencies such as the IMF and World Trade Organization could help manage currency tensions before they erupt into something more damaging.

Japan intervened to weaken the yen last month for the first time in six years, and several emerging markets have taken steps to prevent their currencies from rising too rapidly.

The IMF’s managing director, Dominique Strauss-Kahn, said fading global cooperation was regrettable. "I think it's fair to say that momentum is not vanishing but decreasing and that's a real threat," he warned at a separate news conference. "Everybody has to keep in mind this mantra that there is no domestic solution to a global crisis."

Strauss-Kahn said he disliked the notion that a currency war was brewing because the term was "too military," but conceded "it's fair to say that many do consider their currency as a weapon and that's certainly not for the good of the global economy."

China held the yuan stable during the financial crisis but in June promised to let it respond more freely to market forces. Since then it has risen about 2 percent against the U.S. dollar.
Financial leaders from emerging market countries expressed some frustration with the rich world's policies, too.

The G24, composed of emerging and developing economies, said a simultaneous budget clamp-down "presently under way in many advanced economies poses considerable risks of a downward spiral in global demand."

The G24 also said low interest rates in advanced economies were sending investment money flooding into faster-growing emerging markets, driving up asset prices and inflation.

The European Central Bank and the Bank of England both kept interest rates at record lows in meetings on Thursday, while the Bank of Japan cut its benchmark rate to zero this week.

The U.S. Federal Reserve is considering printing more money to buy assets in the hope of speeding up the pace of U.S. growth to bring down high unemployment. The side effect is a weaker dollar that is fueling global tensions.

Since mid-June, the U.S. dollar has fallen nearly 13 percent against a basket of major currencies, erasing most of the gains it racked up earlier in the year when European sovereign debt worries sent investors scrambling for safety.
ECB President Jean-Claude Trichet said volatile exchange rate moves had "adverse implications" for economic and financial stability and that he shared the view that a strong dollar was in Washington's best interest. U.S. officials, however, have been silent on the greenback's fall.



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