The world is not always in a currency war. But when currency wars break out, they can last for a very long time.
Major European countries and the US fought a currency war from 1921 to 1936, 15 years, that raged from the Weimar hyperinflation of the early 1920s through to the abandonment of the gold standard in the 1930s.
It finally ended with the outbreak of the Second World War — a case of currency wars being supplanted by real wars.
The next currency war lasted even longer — 20 years — from 1967 to 1987. It began with the devaluation of the pound sterling and continued through to the Louvre Accord, a kind of peace treaty brokered by then-US Treasury Secretary James Baker.
This new currency war began in 2010. It’s not surprising that the war is still raging in 2015. After all, it has been only five years since it started.
Based on the past two currency wars, the one now being fought could easily last until 2020 — if the international monetary system doesn’t collapse first, which it might.
Lessons from Nazi Germany
As in real wars, currency wars proceed through separate battles with diverse outcomes. This is important to bear in mind.
Too many analysts focus on a particular episode, such as the ‘Abenomics’ cheap yen policy of December 2012…or the more recent cheap euro episode of 2015…and assume this reveals the direction of the currency war. This misses the bigger picture.
In the Second World War, Nazi Germany achieved enormous victories from 1939 to 1941, but suffered continual losses from 1942 to 1945.
The same is true in currency wars. Today’s winner can be tomorrow’s loser, and vice versa.
But by using the unique models and nonconventional analysis I reveal in my latest book — which you can access free of charge, right here — you can unlock the dynamics of the overall war beyond each day’s battle report.
Right now, the conventional wisdom among many analysts and central bankers is that the US is an engine of global growth and can afford a strong dollar and higher interest rates. In turn, this allows a cheap euro, cheap yen and potentially cheap Chinese yuan to stimulate growth in those countries.
In this version of events, the entire world will soon be on a path to self-sustaining trend growth. In the language of the space program, the Fed is getting closer to ‘liftoff’ of interest rates, and the entire world will soon achieve ‘escape velocity’, leading to sustained growth that does not need the ‘booster rockets’ of easy money.
Nothing could be further from the truth. In fact, growth around the world is slowing rapidly…
Cheap currencies steal growth
According to a recent report from Bank of America Merrill Lynch, as reported in the Financial Times, nominal global growth will be negative in 2015 for the first time since 2009 — during the global financial crisis. This is only the fifth time nominal global growth has been negative in the past 34 years.
It would be one thing if a strong currency meant a strong economy. In that case, China and the US could afford to give some help to Europe and Japan through a stronger dollar and stronger yuan. But that is not the case.
What is happening is that countries are using cheap currencies to steal growth from their trading partners, but the impact on overall growth is negative.
Europe and Japan may get some temporary benefit from the cheap euro and cheap yen, but China and the US are paying the price. Growth in China and the US is plummeting right now.
The impact of a strong currency is highly deflationary in a world where there is not enough growth to go around. Efforts by the US Federal Reserve to raise interest rates, or even to talk about raising them, will increase deflationary expectations and hurt growth even more.
Another place where this deflationary tsunami and weak growth are having a huge impact is the energy sector.
We’ve discussed this before in terms of energy-related junk debt coming due in 2016. Yet the oil price decline is part of the larger global deflationary picture, and that trend will not reverse soon.
Where does this leave us?
We should expect lower growth around the world. We should expect that the dollar and yuan will remain strong, because Europe and Japan need all the help they can get.
Strong currencies in the US and China do not connote growth, but actually hurt growth and cause deflation.
The energy sector will suffer both because of these macro trends and because of the geopolitics behind the energy price decline.
Finally, deflation makes debt harder to repay because the real cost of nominal debt goes up.
In this economic climate, the most vulnerable companies are those that are leveraged…involved in energy…dependent on higher growth…and exposed to headwinds in China and the US.
You can profit from these dynamics if you understand them. The best way to get started is by clicking here.
For Markets and Money
James G. Rickards is the strategist for Strategic Intelligence, the newest newsletter from Port Phillip Publishing. He is an American lawyer, economist, and investment banker with 35 years of experience working in capital markets on Wall Street. He is the author of The New York Times bestsellers Currency Wars and The Death of Money. Jim also serves as Chief Economist for West Shore Group.