Tag Archives: speculation

The G7 and Japanese Currency Markets

Japanese yenThe G7, a loose association of the world’s seven wealthiest countries, took the unusual step yesterday of backing intervention in Japanese currency markets. In the aftermath of the devastating earthquake and tsunami, the value of the Japanese yen had been pushed to record highs by markets (and currency speculators) anticipating Japanese companies repatriating funds to help rebuild lost production capacity. In hopes of keeping its currency value stable, the Japanese government injected 60 trillion yen (more than $740 billion) into the economy over a four day period following the crisis. But despite these efforts the yen climbed to its highest levels since World War II last week, peaking at 77 yen per dollar last week.

So what’s the worry? Currency values are important in determining exports, imports, and balance of trade. In general, a weaker currency means more competitive exports. This is why countries sometimes risk the specter of competitive devaluation, as the United States has accused China in recent years. But in the case of the Japanese yen, the challenge is much greater. An increase in the value of the yen could weaken the Japanese economic recovery. But more importantly, there was concern that it could also hamper the rebuilding effort by sapping much needed wealth from the market.

Historically, the G7 (as well as its individual member states) have been hesitant to intervene in foreign exchange markets, guided by the perception that it simply doesn’t work, or that the dangers outweigh the possible benefits. This is why the G7 maneuver is so unusual.

What’s Driving Food Prices?

Women farmers on a sugar plantation in Mozambique.

Women farmers on a sugar plantation in Mozambique.

Global food prices continue to increase. According to the UN Food and Agriculture Organizasiton, global food prices reached the highest level on record in January, surpassing the mark previously set during the 2007-08 global food crisis. Last week, the European Union took the dramatic step of loosening longstanding import restrictions intended to protect European farmers from international competition. The move, which clearly hints that European markets are tighter than most observers believed, came on the heels of announcements by the US government that its corn harvest will likely be smaller than originally forecast. Meanwhile, international protests over higher food prices continue to rock governments around the world, most recently in Yemen.

What’s driving food prices higher? Obviously, production shortfalls and increasing demand in emerging economies are a part of the explanation. The diversion of food into ethanol fuel production, most notably for US corn production, is also an element.

But last week, Fed Chairman Ben Bernanke was forced on to the defensive. According to some critics, the decision of the US Federal Reserve to engage in a policy of quantitative easing, intended to increase the supply of money in the US economy in order to fuel economic growth, has driven investors into commodity markets, including food commodity markets, driving prices up. 

Although Bernanke strenuously denied the charges, the world’s top sugar traders last week echoed a similar concern. In a letter to the ICE Futures US exchange, the World Sugar Committee condemned “parasitic” computer traders who engage in high-frequency speculative trades which “only serve to enrich themselves at the expense of traditional market users.”  Sugar prices last week hit their highest levels in more than 30 years.

Time for the Tobin Tax?

In August 1971, as President Richard Nixon was struggling to bring the United States off the gold standard, the economist James Tobin proposed that any new system of currency exchange should include a small tax on transactions. The tax would, in theory, provide greater stability in exchange rates [glossary] by limiting speculative flows, which, according to Dani Rodrik, have “doubtful social value yet eat up real resources in terms of human talent, computing power, and debt.”

Although the tax was never adopted at a global level, it has reared its head from time to time, including in the aftermath of the 1997 Asian financial crisis, and as a potential funding mechanism for both development aid and for the United Nations system. Most recently, Brazil imposed a 2% tax on currency inflows into the country in an attempt to limit the appreciation of its currency, the real.

At a meeting of the G20 finance ministers this weekend, British Prime Minister Gordon Brown proposed a new tax on international financial transactions to offset the costs associated with the rescue of banks during the global financial meltdown. The proposal represents a shift in policy for the Brown cabinet, which had previously opposed similar proposals by France and Germany as too difficult to manage. But according to Brown, the new proposal would not be a tax but “an insurance fee to reflect systemic risk or a resolution fund or contingent capital arrangements or a global financial transaction levy.” Brown argued that,

It cannot be acceptable that the benefits of success in this sector are reaped by the few but the costs of its failure are borne by all of us…There must be a better economic and social contract between financial institutions and the public based on trust and a just distribution of risks and rewards.

The proposal, which received a cold reception from both U.S. Treasury Secretary
Tim Geithner and Russian Finance Minister Alexei Kudrin, bears remarkable similarities to a criticism leveled by hedge fund manager George Soros in an interview with the Financial Times last week.

But the G20 has been struggling to develop a new system of financial regulation to prevent another global economic crisis. Despite a number of vague commitments to rethink their economic policies and establish stricter regulations governing the financial sector, little real progress has been made. Meanwhile, as the Economist’s blog points out, protectionism is on the rise and trade disputes between the United States and China are intensifying.

Perhaps it is time to think about more radical changes. A Tobin-style tax on global financial transactions could easily raise billions of dollars. A German proposal to impose a 0.005% tax on international financial transactions, for example, could generate between €20 billion and €30 billion per year. A more aggressive tax (say of 0.01%) could easily generate more than the cumulative official development assistance (ODA) budget of all developed countries (currently estimated to be around US $100 billion) while simultaneously limiting the negative impact of hot money on developing economies. Sounds like it might be time for the Tobin tax.