What Are Foreign Exchange Markets Saying?

Includes: AAXJ, EPP, UUP, VPL
by: John M. Mason


Foreign exchange rates are falling, in China, in Asian countries, and in other emerging nations around the world.

These declines appear to be related to the economic slowdown in China, but they are also related to how capital has first gone into many emerging nations, then left them.

A major fear connected with this is that further devaluation of the Chinese renminbi might set off further difficulties for economic growth in the emerging nations and also the world.

What are foreign exchange markets saying?

The focus in recent months has been the devaluation of the Chinese renminbi and the declines that have taken place there, but more is going on that needs to catch our attention.

For example, there is concern that some global money managers have been taking money out of some emerging market currencies, especially those of some Asian countries.

A lot of attention has been given to Brazil, particularly because of all the political developments that are going on. The US dollar has risen by 130 percent against the Brazilian real since the middle of 2011.

The US dollar has also risen against the South African rand by the same amount over the same time period.

But, the Asian countries seem to be moving together. Over the past six months, the Singapore dollar and the Korean won are down by 5 percent. The Taiwan dollar has dropped by 7 percent. Even the Indian rupee has fallen by about 7 percent against the dollar.

The fear is that if China's renminbi is allowed to depreciate further, this will bring greater troubles to the currencies of these nations.

After years of expansion, China's economy is pulling back and this has resulted in a reduction in the demand for the commodities produced in these countries. This decline in demand is impacting the exports of countries all over the world and especially countries that depend upon foreign trade, like the members of the Asian community.

To show how this seems to be impacting other countries, we see that the exports of Korea have decline by 14 percent, December 2015 over December 2014. Over the year, exports are down by 8 percent. Korea has not had such a bad year since the peak of the Great Recession in 2009.

In Taiwan, the expectations are that exports are down 10 percent in 2015, and in Singapore, the decline in the most recent quarter is 6 percent.

Analysts are fearful of any further decline in China's trade or in the value of the renminbi. Some are even predicting further major declines over the next year or so.

This is a deflationary scenario.

Why is this important?

Well, many of these nations have used low world interest rates to pile on the debt. They have issued billions of dollars of bonds. They have sold their debt to foreign investors all over the world that were seeking high yields.

Now, if these countries are experiencing the threat of a deflationary scenario and declining economic growth, these foreign investors will not stay around. Funds will fly to the safe havens or the world, the United States and Germany.

The culprit here is the open capital markets of the world. Wolfgang Münchau has written about this in the Financial Times. As global financial markets have opened up over the past 60 years, capital flows throughout the world have not only become enormous, but they have grown beyond the capabilities of central banks to offset them and protect local currencies and economies. Bubbles rise and fall as the inflows and outflows of capital proceed at the will of sophisticated investors.

Former US Treasury Secretary Larry Summers writes in the Financial Times about why policymakers should pay attention to these flows and pay attention to what exchange rates are saying about what is happening in world financial markets.

It seems as if the foreign exchange markets are saying that many countries within the world are having trouble growing and given their current debt loads, even more difficulties might be experienced in the world in the future.

Further devaluation of the renminbi might exacerbate the situation.

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I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.