The decision by the Swiss to defend their currency and the consequent rise in the gold price (it later eased) has the potential to be a time bomb for the Australian dollar.
While the current focus in Canberra is about leadership speculation, the long-term thinkers in the federal cabinet are deeply concerned at the potential dangers to Australia of a further rise in our dollar, especially given the radical high interest rate views held by some of the Reserve Bank zealots.
I am not in the business of forecasting the currency. There are a clear set of circumstances that would see our currency fall, or certainly not rise. But last night’s events in Switzerland opened the danger of a steep rise in the currency.
Let me take you through the forces in play. As we have been explaining in Business Spectator, a great many European banks now have no capital because of their losses on sovereign debt. Banks no longer trust each other and for good reason. The fall in European sharemarkets mean that governments will need to provide the replacement capital.
And now the European economies are also crumbling.
We are headed for a deep European recession or, even worse, a depression that could see the euro fall sharply. In such a crisis, that normally sends the US dollar up and the repercussions of the European weakness clips commodity prices and our currency. We saw that happening last night, although the Chinese jumped into the copper market, perhaps seeing that as a safe haven.
That is the way it may play out. But here is a second and dangerous scenario. There is unprecedented liquidity in the world, which is looking for a safe haven. The Swiss franc was seen as such a haven and its consequent big rise made it economically impossible to make or do anything in Switzerland that could be undertaken in neighbouring countries. The Swiss were looking at huge unemployment. So they have decided to take on the speculators and will sell Swiss francs to keep a lid on the currency.
There is now only one safe haven — gold. Actually, there may be another one. It’s called the Australian dollar and you actually get paid high rates of interest while you play the speculative game.
I don’t think anyone in Canberra is seriously thinking that we should follow the Swiss, but there is great concern that our interest rates are way out of line with our trading partners. Fortunately, we have on the Reserve Bank board people from the real world and it is likely we will see reduced interest rates later this year.
Again, I am not forecasting that we will replace the Swiss franc as a safe haven — just alerting you to the dangers.
*This article first appeared on Business Spectator
Time China was told no more fixed currency – float the yuan or we don’t send you food, oil, coal, iron ore. Tariffs of 100% should apply to all Chinese imports. This is not a game anymore – time for China to start being a major power and not just a backwater sweat shop for PLA generals to get rich off.
Simon – so the Chinese shouldn’t intervene in their currency, but it’s OK for the Swiss to do so?
The pressure will be on other countries with relatively strong economies and backed by resources to protect their currencies – think Norway and Sweden for instance. The Age of free-market unfettered financial globalisation where capital (if not labour) moves freely to the detriment of sovereign nations and societies may well be drawing to a close.
I’m not sure, but I don’t think the Yuan actually trades in the market at the point it is set at, so what the Chinese say it’s worth is immaterial to TheMarket!.
The Swiss would not need to intervene if the Yuan was a free floating currency. As a substantial portion of the hot money would be going into the Yuan instead. This in turn would take pressure off not only the Swiss Franc, but the Japanese Yen and the Aussie Dollar and probably gold as well which would be good for nations like India which use gold in a very different way to most other nations.
Much of the delay in the global economic recovery can be blamed directly on China maintaining a fixed currency that is sucking in all of the benefits of US quantitative easing and using it to boost their global competitiveness to the detriment of so many other nations.
This is mostly just a replay of the circumstance behind the Plaza Accord in 1985. Which achieved it’s overall objectives of devaluing the dollar against the yen and changing the trade relationships between the major economies when measured on an overall basis and not just a Japan-US basis.
The difference this time is that the cost of failure to fix the imbalances will be far larger than what we had in the 1980s. China with a population of 1.3 billion cannot afford a hard landing – but if it doesn’t start working cooperatively to fix the escalating trade imbalances then the western economies will go into a deep depression and the Chinese export based economy will collapse.
The myth of the 3 trillion dollar foreign exchange reserves will then be exposed as China can’t liquidate most of these foreign denominated bonds without destroying their value – and it will effectively have nothing to stimulate domestic economic activity this time around except another round of massive debt creation and printing money itself – which in turn will cause massive inflation leading to social unrest on a vast scale.
Things are very serious and the US political cycle is dangerously stacked against anything happening until 2013. It is possible that the next economic crisis will come sooner rather than later and major economies will have no choice but to work cooperatively in early 2012 to unraveling this growing mess with compromise on all sides.
Meanwhile, Australia will remain obsessed with refugees and the carbon tax.