Currency Wars: The Latest Battle

Devaluation of currencies could derail the system...

KEEP YOUR eyes on Japan for the latest round in the currency war, writes Dan Denning for the Daily Reckoning Australia.

The Bank of Japan meets in the next few hours. The Yen is approaching levels against the US Dollar at which the BoJ has intervened in the past.

The Fed's knee-capping of the US Dollar last week led to the Yen breaking out of a trading range. It's headed back to the dangerous level where the BoJ intervenes to keep it weak and keep Japanese exports cheap.

In this case, there are no hidden patterns in past market behavior that give you any clues about what could happen next. But the more useful way to think about it is what Japan is really trying to do by weakening the Yen. It's trying to do exactly what the US is doing. In fact everyone is trying to do exactly the same thing.

This is what happens in a currency war. When an economy runs out of growth – because it ran up huge debts chasing a bubble in real estate or stocks – it tries to borrow growth from its neighbors. If you can't sell things to your own people because they're too poor or too broke, sell them to people who have more money or better credit.

The trouble today is that the whole world has been borrowing growth from the future through credit for about thirty years. All this Keynesian 'bringing forward' of demand has robbed the future of its savings. The result is a giant private sector debt which will take years to pay down. Governments have stepped into the demand breech and tried to fill it up with IOUs.

You know this already, so we won't belabor the point. But the hopelessness of the situation probably explains the escalation in tempers and geopolitical tensions. Nations are fighting over a smaller and smaller growth pie. What they can no longer share they may choose to try to steal through currency manipulation. And failing that, they'll either smash and grab or simply smash.

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