Currency war is a worldwide financial trend where nations lower their currencies intentionally to take advantage of the trade. In the beginning, people may think that a strong currency is a symbol of economic prosperity and security. Nevertheless, in the global trade and international finance sectors, a dollar that is too strong can be a source of deep problems, especially when other nations have a plan to make their currency depreciation a tool for higher exports.
This has again become a subject of the global debate: whether the U.S. dollar is the strongest and, if yes, what are the consequences of it. Different monetary policies among the economies of the world and the decisions of the central banks influenced by inflationary forces make it very important to learn the nature of currency wars. The pros and cons of the devaluation of the currency, the things that drive it, its dangers, and the possibility of the U.S. dollar being the top currency in the world- or even desirable.
Understanding the Mechanics: What Is a Currency War?
A “currency war” means that countries intentionally devaluate their own currency in a contested manner for the reason of strengthening their international trade position. A weaker currency, by making the exports cheaper and the imports more expensive, can lead to domestic production and job creation. The point is to change for the better the trade balances and thus give a boost to economic growth.
Conversely, the same policy can bring in major threats. When countries’ concurrent actions of decrease in currency prices occur, this generally leads to “currency wars” or a “cash debasement race”. Such policies can immediately become aggressive, leading to financial market instability and ultimately ruining global economic solidarity.
The irony is that although one may consider someone to be a winner, in reality, nations cannot be winners in the long run through a currency war. Usually, the profits are short-lived as other countries go against them to provide their own and, thus, nullify any advantage.
Historical Context: The Legacy of Currency Battles
“Currency warfare” is a term that has been in use since the last century. During the 1930s, the competitive devaluation that occurred due to the Great Depression also gave birth to higher tariffs as well as a collapse in the number of global transactions. Most recently, after the financial crisis that started in 2008, the USA, Japan, and China followed strategies for subtle devaluation through the use of monetary stimulus and the cutting down of interest rates.
The former Brazilian finance minister, Guido Mantega, brought the term back to life in 2010, and this was done through the issuance of a clear warning of a period with “currency wars” as the protagonist. His message came in the aftermath of the decision of the U.S. Federal Reserve to implement a form of monetary policy, namely by buying assets, which was called “quantitative easing”, a move that resulted in the depreciation of the dollar and thus the rise of American exports.
According to some experts, the term competitive devaluation is usually not found in the discourses held in diplomatic circles, which is contrary to what is still happening in practice.
Why Countries Devalue Their Currency
It may be considered that a weak currency is a disadvantage, but for export-based economies, it is more of an advantage. Here are the reasons:
- Lower exports: Foreign buyers pay more for your goods, reducing demand.
- Bringing in cheaper imports: Local consumers purchase products made in their own country, which will lead to the prosperity of the local industries.
- Trade balance: Positive trade balances contribute to the reduction of both deficits and the attraction of foreign investment.
- Debt management: Because of inflation, which is the result of devaluation, sovereign debt is less affected.
Still, the benefits are not a foregone conclusion. If a country is not able to produce goods at home, nor is it able to put structural reforms forward, then devaluation will not have the desired effect but will trigger many negative effects instead, those that include among others inflation, shortage of output, and political opposition.
The U.S. Dollar: A Unique Case in Global Finance
Most countries, unlike the United States, have the advantage of the world’s primary reserve currency. This allows them to easily transact in different types of currencies, borrowing, and lending as well as without being hampered by the limitations of the world’s trading currency. The power of the dollar as the global reserve currency is, however, a case of two sides of the coin.
- The dollar strengthens while exports become weak: the cost of U.S. goods abroad is high.
- The income of the companies goes down because of the currency’s devaluation.
- Developing markets face the consequences of the favorable exchange rate of the dollar: capital outflows from these countries are on the rise, in turn, increasing the costs they incur when servicing their debts.
Notwithstanding the limitations of the situation, the U.S. usually adheres to a policy of a strong dollar. This allows further global investments in American assets, helps to reduce borrowing expenses, and affirms that the economy is resilient. Nevertheless, excessive strength in the dollar can potentially be perceived as an aggressive measure and, as such, be met with retaliatory action by trade partners to the point of a “currency war”.
The Dollar Surge Before and After COVID-19
Prior to the outbreak of COVID-19, the U.S. dollar was experiencing high growth that was uncharacteristic of the years before. The question is, why?
- Europe and Japan made an earlier exit than the United States from their QE programs.
- There was a greater gap between the interest rates of the U.S. and the rest of the world; this difference attracted foreign investors.
- Due to unrest all over the world, U.S. Treasuries became a safe option to invest money.
That was the time when the world was hit by COVID-19. The Federal Reserve cut down the interest rates, adopted monetary easing, and injected emergency stimulus into the system. The value of the dollar initially decreased, but a little later, it recovered as other countries turned to the U.S. dollar.
At the beginning of 2024, the dollar had surged in value, and this was worried of a possible outbreak of a “currency war,” more so among countries, which were facing inflation and had little export.
Policy Tools Behind Currency Devaluation
There are numerous ways the government and the central bank can decrease the value of their currency. Some of them are common, and others are quite sneaky:
- Lower interest rates: Lower currency and thus reduces capital inflow
- Quantitative easing: Increases the money supply and hence devalues the currency
- Foreign exchange interventions: This means buying/selling foreign currencies directly in the FX market
- Capital controls: Prevents the currency from returning to the market using the outflow of investment to maintain competitiveness
Even though central banks may claim that their goal is not the reduction of currency value by devaluation, they are usually only used during periods of economic slowdown. The outcome of such an action is a lack of harmonized yet independent policies which often climax into an all-out currency competition.
Currency War or Competitive Devaluation?
Frequently the terms “currency war” and “competitive devaluation” draw the same picture; still, there is a fine line in the political context. In the first case, it is an expression of open economic aggression, and in the latter, a softer term that nations use among each other in international relations.
As per a report on CNBC, “covert currency war” was declared in 2019 when, with a low-growth rate and trade tensions around, all central banks played the game of “weakening the currency” at the same time to save the situation. Notably, the step that China made in devaluing the yuan after the U.S. imposed tariffs showed a move in a more general economic chess match.
The line between loosening the money flow and manipulating the currency is ambiguous — one of the reasons these conflicts seldom raise eyebrows, if they do not influence international markets.
Trade Wars and Currency Conflicts: A Symbiotic Spiral
Trade wars and currency conflicts typically go hand in hand. In the event that tariffs lead to higher prices for imported goods, countries can revalue their currency to make up the difference in cost.
From 2018 to 2020, the Trump administration’s trade policy towards China was exactly like this. As the value of US goods imported from China decreased, the Chinese yuan also went down in value, leading to the suspicion that China was retaliating through devaluation.
This rather unbalanced model raises a more fundamental question: Are the currency maneuvers a spin-off of the trade conflicts? The answer is definitely yes—the case is even more so for such times where the two parties are more concerned with short-term victories rather than long-term stability.
The Currency Wars Book and James Rickards’s Perspective
James Rickards, the financial analyst nd author, played a pivotal role in popularizing the term through his book Currency Wa, and he further argued that the world beyond the gold standard was no less than a world of currency conflict.
According to the book Currency Wars by James Rickards, governments are using currencies as economic weapons, and central banks’ irresponsible policy is the most dangerous source of financial instability. Warfare has become digital and economic, and the fighting is happening in the balance sheets instead of battlefields, is his thesis.
Despite the fact that the views of Rickards might sound a bit alarmist for some economists, his predictions related to market instability, capital flows, and the failure of global coordination have been quite accurate in the last few years.
Is a strong dollar still beneficial?
It could be said that the answer varies based on the viewpoint.
Pros/cons of a strong dollar:
- Attractoreign investment.
- Keeps inflation in check by making imports cheaper.
- Supports global confidence in U.S. assets.
While the list of pros of a strong dollar is vast, there are some drawbacks to consider, and they include the following:
- Hurts export competitiveness.
- Reduces multinational revenue.
- Triggers emerging market volatility.
The Fed is the key player. Although exchange rates don’t belong to the stated targets of the Fed, the effects of its interest rate and balance sheet policies are so undeniably global that they make FED one of the biggest financial players worldwide. Tightening policy by the FED forces many emerging markets to defend their currency. When the Fed switches to a looser policy, concerns about inflation and “currency warfare” come back to life.
Long-lasting Currency Depreciation Worldwide
Continued devaluation of a nation’s currency will bring about several negative impacts, such as:
- Import prices increase: At the expense of domestic consumers, foreign goods become more expensive.
- Investment becomes unpredictable: In weak economies, investors are more likely to stay away, leading to a declining inflow of capital.
- Against a background of escalating trade imbalances: Sets of policies that promise retribution for unfair practices call reaction in supply chains.
Furthermore, currency antagonism could become the source of broader global financial instability, particularly in fragile global growth environments. Unfortunately, poorly executed currency devaluation frequently leads to protectionism, escape of capital, and rising debt service charges.
How Countries Attempt to Escape the Cycle
Eliminating currency devaluation entails changing more than just financial maneuvers. To boot, countries are supposed to carry out the following:
- Structural reforms: Enhance productivity levels and price competitiveness as well.
- Trade diversification: Minimize the fact that you export only to a few regions.
- Fiscal discipline: The deficits that are the cause of the currency losing its long-term strength should be reduced.
- Central bank transparency: Maintain the trust level of the investors and minimize speculating activities.
Devaluing a currency without addressing the root of the problem is like using aspirin to alleviate a chronic disease—it helps for a while, but the disease still persists.
The Future of Currency Wars: A Digital Twist?
A shift towards central bank digital currencies (CBDCs) by countries could potentially result in the emergence of new currency struggles. Digital prototypes of the yuan, euro, and dollar are already in progress. Apart from allowing faster and more extensive payment transactions, these digital currencies also put back to the government the power of controlling the money flow.
Can the next phase of “currency warfare” be linked to programmable money? In theory, it might be feasible. If central bank digital currencies are designed to stimulate expenditure, discourage saving or prevent cross-border transfers, they might turn into the tools of a country’s economic policy—hence the issue of global relationships could worsen.
Conclusion: Are We Still in a “Currency War”?
The present situation may very well be an aftermath of what seems to be a full-blown currency war scenario, even if not conceived directly. The steeds of this imminent conflict are numerous, , from the divergence of the interests rates, the inclination of the particular bank to interfere in the currency market, the most recent in a series of trade frictions, and the incipient scares of inflation all simultaneously feeding the formation of such a scene of monetary disagreement.
Isn’t a mighty dollar beneficial to the U.S. and the rest of the world? The situation appears to be the opposite. While of course, devaluation offers a temporary respite, it is a mere palliative and can at most solve the least deep-seated of the problems. Where there are several contesting states fighting to stay a step ahead by weakening their money, no one can emerge victorious.
Here we go. Ultimate coordination done in the world business companies can perform miracles until everything becomes open public transparent and balanced growth strategies are employed for best outcomes. Previously, Thailand initiated currency swaps on good terms with emerging market economies. However, the contracts were terminated under the pretext of” wrongdoings of overprinting notes”(Yadav,2016), and it was accompanied by a halt in the Export-Import Bank loans (Yadav,2016) due to