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Insight to All Things Currency and Treasury Management

I had great feedback on the currency wars battlefield report I posted on February 22 (FiREapps Battlefield Report: 3 Things You Need to Know About the Currency War) so I decided to keep with the theme in this latest blog post. (And you can expect to continue seeing battlefield reports periodically here on the FiREapps blog.)

Almost all of the media attention focused on the currency war recently has been on how dangerous it is. But that begs the question: if currency war is so bad, and it creates a competitive devaluation race to the bottom, why do countries engage in it? Currency wars are politically motivated, and politicians often find strong incentives to engage in competitive devaluation. Here’s why.

1) Competitive devaluation (currency warfare) can yield significant benefits for the countries that engage in it. The problem with currency warfare is that the beneficiaries of a country’s devaluation are the ones who hold the most sway over the policymakers who can control the exchange rate. In Japan, for example, the new prime minister was elected on a promise to devalue the yen. In Venezuela, the devaluation was seen by many as a way for ailing President Chavez to shore up support in advance of a potential election. Pressure from voters has continued to be more powerful than pressure from the international community.

In export-dependent economies, especially, competitive devaluation is often seen as an important policy tool. In a world as interconnected as ours – where the value of a currency in Latin America can affect the competitiveness of an Asian country’s exports – countries often say they have no choice but to engage in competitive devaluation as a protective mechanism.

That has been the case in European countries affected by, but not part of, the euro crisis. Currency manipulation in Switzerland, and talk of it in Sweden and Norway, for example, has been in large part designed to keep the currencies from becoming safe havens for investors fleeing the euro. When a currency becomes a safe haven, its value can rise rapidly, making the country’s exports less competitive globally.

In Norway, central bank Governor Oeystein Olsen said he would cut rates if the krone appreciates too much. Exports account for about half of Norway’s total economic output. Sweden’s central bank has so far resisted pressure to devalue the krona, though exporters there have reportedly complained that a relatively strong krona gives them a competitive disadvantage (which it does).[1] Switzerland has openly manipulated its currency since 2011 to dissuade use of the franc as a safe haven currency.

2) While the benefits accrue to home companies, foreign enterprises are the ones who are harmed. A few weeks ago FiREapps CEO Wolfgang Koester posted a blog about why Japan was engaging in currency warfare – and how its exporters were benefiting (It’s Yen Week, with Competitive Devaluation and Currency Wars Headlining). As the yen has weakened, Japan’s exports have become relatively more affordable (and thus more competitive) in global markets. In 2012, a Camry that cost $22,000 got Toyota 1.7 million yen. In 2013, the same $22,000 Camry gets Toyota 2 million yen – an 18% increase in revenue just because the currency weakened.

On the flip side, companies that compete with Japanese exporters – say, U.S. automakers – are harmed by yen-weakening policies, because their products become relatively less affordable (and thus less competitive) in global markets. In his 2012Q3 earnings call, the CEO of a Fortune 500 company told analysts and investors that a 1 point drop in the yen would decrease the company’s net income by $6 million. Doing the math, that would mean a $66 million negative currency impact, almost a quarter of the company’s reported net income. In that context, it’s easy to see why U.S. automakers have implored President Obama to take stronger action against yen devaluation (including, they have suggested, weakening the dollar).

3) For countries, the upsides and downsides of currency warfare might net out over the long run. Not so for companies. There are some who say that competitive devaluation is not harmful. In the long run, that might be true: because exchange rates are relative, if all countries devalue their currencies, the result is a wash; over time the gains and losses associated with currency warfare net out.

But multinational corporations don’t have the luxury of waiting out the currency wars; they can see significant currency-related impacts at the end of every quarter. And when those impacts cause companies to miss their quarterly numbers (as they have; stay tuned for our 2012Q4 currency impact report), the impact carries over to earnings per share. So while economies may not be damaged by currency wars over the long term – provided that they engage in the competitive devaluation – the corporation’s quarterly reporting cycle is very sensitive to currency volatility.

So what can multinational corporations do? Become currency agnostic – manage currency risk across your entire portfolio of currency pairs so that no matter where the next hotbed of currency warfare is, you’ll be able to manage the associated currency risk. As I wrote last week, fortunately with cloud-based exposure management technology that kind of management can be done at the push of a button.


[1] Bloomberg, “Iceland Foreshadows Death of Currencies Lost in Crisis,” 19 Feb 2013.