Column : Is depreciation different from QE

Written by Madan Sabnavis | Updated: Feb 20 2013, 06:38am hrs
G20 meets are usually considered to be jamborees where there is a lot of discussion on how the world economy should behave and how countries should foster growth through consensus. At times, it would not be more than a repetition of the earlier summits. But the recent one had a specific purpose on an aspect that, prima facie, has not really dominated the economic space, but has covertly been playing in the background, i.e. exchange rates. There is growing suspicion that some export-oriented countries may be trying to get out of trouble by depreciating their currencies consciously.

The world economy has been in a downward spiral for quite some time now. The financial crisis had its impact for two years and it was felt that the global economy bounced back as fast as it had crashed. But the sovereign debt crisis has been associated with a deeper crisis involving the credibility of countries, which, in turn, has affected the policies pursued by them.

While trade is not so much as a driver for the Indian economy, though the economy has gained when exports grew by over 20% per annum, being a domestic economy largely, the same does not hold for countries like the US, Germany, Japan, China, etc. The dependence on exports has meant that the exchange rate has a critical role to play in the growth process. One way out is to let the currency fall, which means that exports become cheaper in international markets and this helps domestic industry to expand. However, if this is done deliberately, then it is not considered to be a good sign, as it can provoke similar actions from other countries leading to an exchange rate war. This has understandably become a concern for the G20.

Japan has been the target as the yen has fallen by over 20% since November after Shinzo Abe took over. The economy has been in a slump for quite some time now and yen depreciation would help to revive growth in exports. The dollar has been falling against the euro and this has been unnatural because the euro region is in a crisis situation, and ideally the euro should weaken. But the series of quantitative easing measures by the Federal Reserve have increased liquidity in the economy, thus bringing down the currency which helps exports and hence the country to grow.

In fact, if we look at our own country, we have seen that the rupee has been largely stable in the range of R53-55 to a dollar even though the current account deficit has been increasing. However, the strength has been retained due to capital inflows, which have been enabled by the excess liquidity in global markets due to QE. But this is a natural flow of events that has caused the rupee to remain stable when it should have fallen. But, in a way, we have lost our export competitiveness in global markets, even though these flows have helped to stabilise our balance of payments. The difference here as against the Japanese case is that this process has not been driven by the central bank but has happened under natural conditions.

The euro economies are in a sticky situation. Fiscal prudence has been advocated mainly for the troubled southern nations, but is being pursued by the larger countries too. Germany, in particular, has shown restraint in the past and continues to do so today. This has added to problems of a slowdown. Now, with the euro strengthening due to extraneous conditions, it becomes a double-whammy for an export-oriented country.

Therefore, some countries like Japan and the US have gained while Germany has lost out due to such policies. Japan has been particularly blamed for deliberately letting the yen fall while it has tried to reflate the economy. The fear now is that other nations too may respond with similar policies.

Has this happened before In the 1930s, when the depressions got deep-rooted, countries tried to drive themselves out of the rut by following policies of competitive depreciation of currency. This came to be called the beggar my neighbour policy where each country tried to get out by letting its currency depreciate, thereby pressurising other currencies and jeopardising growth in other nations. In fact, this was further supplemented by protectionist policies internally to block imports of goods and services.

The concern today is quite possible that, if unchecked, we may drift towards this syndrome. It was necessary for the members to take a stance to let the rules of the game be obeyed and that countries not push for conscious depreciation of their currencies.

A point, which however remains unanswered, is that whether in a globalised environment can we separate policies relating to QE that have an impact on various countries with such policies that are induced consciously to push down the currency profiles

Both the measures such as QE and depreciation are aimed at finally boosting exports through exchange rate impact. Agreed, today India is better off with the QE impact, but in 2007-08, the QE had led to problems of appreciating rupee as well as monetary policy issues concerning excess monetisation. It was also, in a way, one nation getting out of a problem with a policy that created disequilibrium in other countries. If this is acceptable, then can one really blame Japan or China for consciously undervaluing their currency

There are clearly no answers here, but such issues need to also be juxtaposed so that arguments are not just one-sided. Therefore, global dialogue on exchange rates must also consider such issues as QE so that country responses are analysed in a wider frame.

The author is chief economist, CARE Ratings. Views are personal