International Forecaster Weekly

Yuan Devaluation Heats Up Global Currency War

A currency war is when central banks begin devaluing their currencies in order to make their exports cheaper on the global market. The policy is dangerous because it causes other countries to devalue their own currency in order to keep it in line with their trading partners.

James Corbett | August 12, 2015

Last month I wrote about the worrying capital outflows we've seen from China recently (with the country bleeding $224 billion in the last quarter alone). At the time I wrote:  “When China starts hitting the panic button and officially joins the ZIRP and QE club, the 'currency wars' of the last several years will seem like a quaint relic of a bygone age, and the real currency wars will begin in earnest.

Devaluations, more and more frantic money printing, and central banks acting increasingly aggressively will be the order of the day. And when and if that happens, the gears of world trade will start to grind to a halt and the 'currency war' will turn into a real war, exactly as the trade wars of the 30s led to WWII.”

    Well, guess what just happened? The People's Bank of China just changed the way their currency is valued, causing the yuan to fall a record 1.9% in one day.

    That's all well and good, but what does that mean for the average person? Well you know it's not a good thing when even the "whatever you do, don't rock the boat" mainstream financial media (read: CNBC, Bloomberg, MarketWatch, etc.) start openly discussing the "currency war" idea.

    So what exactly is a "currency war"? It's when central banks begin devaluing their currencies in order to make their exports cheaper (and thus more attractive) on the global market. The policy is dangerous because it causes other countries to devalue their own currency in order to keep it in line with their trading partners and soon you have a cycle of devaluations better known as the "race to the bottom." Or, as Valentin Marinov of Credit Agricole CIB helpfully explains, "With the competitive devaluation gaining momentum but global trade slowing, the latest yuan devaluation could be seen as likely to force other central banks to consider similar measures before long."

    Now it can certainly be argued (and it has) that we've already been in a currency war of sorts for some time. The Fed's QE programs, Japan's Abenomics money printing spree and the ECB's own QE have all been part of this war, and Switzerland's Euro de-peg was one of the notable casualties of that war. But if those battles were the equivalent of the invasion of Poland, this Chinese devaluation may just be the war's Pearl Harbor.

    If there is any potential brake on all-out currency war at this point, it's that China has a very real interest in keeping the yuan propped up. As readers of this column will know, China is still lobbying to be included in the IMF's special drawing rights basket as a world reserve currency, and massive devaluation or volatility on the FX markets would obviously not help to make that case. (Although it should be noted that Zhou Hao of Commerzbank in Singapore argues exactly the opposite.) This is why China has been dumping its (secret) bond stash so furiously in recent months trying to offset the country's capital outflows and keep the yuan at its dollar peg. That's also why it's so surprising that they made this move right now, and why it's a sign that the Chinese economic slowdown may be as bad as its worst critics have feared.

    Things are obviously in flux at the moment and this is a developing story, but here are some things we know for sure about what just happened:

  • US equity markets gave up nearly all of their gains from earlier this week on news of the yuan cut.
  • Euro stocks are plunging as the euro-yuan carry trade unwinds and European manufacturers (specifically car and luxury goods manufacturers) stand to lose Chinese business.
  • Gold jumped on the news as investors brace for a new round of paper money devaluation.

        Here is what we don't know yet:
  • Which central bank(s) might be the first to blink and cut their interest rate in response.
  • Whether or not this will factor into the Fed's decision of whether to hike rates at the FOMC meeting next month.
  • Whether China will reveal more of their stash of gold when they make their next report to the IMF as part of a plan to shore up confidence in the yuan even as they "let off some steam" with this devaluation.

    Whatever else might shake out from this move, there's no doubt that something significant has happened here. "Currency war" is the idea that dare not speak its name amongst the central bankster jetset...until its time for some major moves on the geopolitical chessboard. That time may be now. As Boris Schlossberg of BK Asset Management noted in a recent interview: "We are now playing a multi-global chess game on the monetary front."

    Indeed we are. But as Corbett Report listeners will know, this chess game is of the 3D kind, and the players and teams are not what we are told they are. It isn't China vs. the U.S. vs. Europe vs. Japan or anything of that sort. It's the Trilateral/Bilderberg/Central banker jetset vs. the people, and the end goal is global government and global currency. The only question is whether this currency war is part of that plan, and if so, how the latest moves will help move the global currency football down the field. Stay tuned...