What QE means for the world: Positive-sum currency wars

Posted: February 15, 2013 in economy
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Brazil’s finance minister coined the term “currency wars” in 2010 to describe how the Federal Reserve’s quantitative easing was pushing up other countries’ currencies. Headline writers and policy makers have resurrected the phrase to describe the Japanese government and central bank’s pursuit of a much more aggressive monetary policy, motivated in part by the strength of the yen.The clear implication of the term “war” is that these policies are zero-sum games: America and Japan are trying to push down their currencies to boost exports and limit imports, and thereby divert demand from their trading partners to themselves. Currency warriors regularly invoke the 1930s as a cautionary tale. In their retelling, countries that abandoned the gold standard enjoyed a de facto devaluation, luring others into beggar-thy-neighbor devaluations that sucked the world into vortex of protectionism and economic self-destruction.But as our leader this week argues, this story fundamentally misrepresents what is going on now, and as I will argue below, what went on in the 1930s. To understand why, consider how monetary policy influences the trade balance and the exchange rate.Typically, a central bank eases by lowering the short-term interest rate. When that rate is stuck at zero, it can buy bonds, i.e. conduct quantitative easing (QE), or verbally commit to keep the short rate low for …

via Economic Crisis http://www.economist.com/blogs/freeexchange/2013/02/what-qe-means-world?fsrc=rss

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