Currency Tensions Flare as Brazil, Japan Take Action

A drive by many of the world's economies to cap the strength of their currencies is gaining momentum, with Brazil firing the latest shot just days before world finance leaders meet in Washington.

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Ultra-low interest rates in Europe and Japan and concerns that the U.S.

Federal Reserve is about to embark on another round of money printing that could weaken the dollar have pushed currencies to the top of the agenda for the gathering of finance chiefs from the Group of Seven rich nations Friday.

The International Monetary Fund, which holds its twice-yearly meeting this weekend, is also expected to discuss foreign exchange moves as part of its mission to get countries working together toward balanced global growth.

The IMF is responsible for vetting national policies to ensure they don't clash, and will present its findings to world leaders at upcoming summits in Seoul, South Korea.

"The conversations will begin this weekend but will no doubt continue until ministers and governors meet later in Seoul," said a senior U.S. Treasury officials who spoke to reporters on condition of anonymity.

Brazil, whose finance minister has warned of an international "currency war," on Monday doubled a tax on foreign investors buying local bonds to 4 percent to curb a strong real, boosted by high domestic interest rates and a commodity boom.

Slow economic growth and high unemployment in most rich countries leave them unusually reliant on exports, and weaker currencies can provide a trade advantage. Japan intervened to weaken the yen last month and a couple of emerging economies have followed.

But emerging economies including Brazil worry that low interest rates and weak currencies in the rich world will drive investors into faster-growing emerging markets, creating an unpredictable surge of hot money that can contribute to inflation and asset price bubbles.

For the G7 and IMF, the challenge now is to ensure countries don't go rogue, adopting policies that might help at home but hurt abroad.

Nobel-winning economist Joseph Stiglitz said the Federal Reserve's actions to spur growth were doing nothing for the U.S. economy while bringing chaos to the rest of the world.

Adding to the tension, policymakers from emerging Asian economies voiced growing concerns about the risk of a flood of hot money inflows.

South Korea warned investors it might impose further limits on forward trading and India and Thailand said they were looking at steps to control speculative surges.

"I don't foresee that we're moving into an era of global currency wars but there are clearly going to be tensions," World Bank President Robert Zoellick said on Monday, calling for action to ease the tension.

"Money is chasing yield. It can't find those yields in developed economies and this is not only pushing up currency values in developing countries... (but) also pushing up prices in assets with the risk of bubbles in property and some commodities," he added.
CONTINUED: Deeply rooted positions
Policymakers have been attacking the issue of global imbalances for years, with fundamental problems seen in the dollar's global dominance, China's under-valued yuan and Germany's lack of domestic consumption.

But entrenched positions and a scramble to lock in lower relative costs for exporters make it unlikely that officials sitting down to IMF and G7 meetings this weekend, and G20 meetings later this month, will resolve their differences.

"We are in a very extreme situation, everyone is about as far apart as they could possibly be,'' said Neil Mellor, currency strategist at Bank of New York Mellon.

"Everyone wants stability but everyone has the same objective — a weaker currency. They will make the right noises, but what can they possibly come up with?''

Despite attempts at coordination by G20 countries during the financial crisis, central banks have acted unilaterally.

U.S. Fed Chairman Ben Bernanke appeared to rubber-stamp a second round of quantitative easing on Monday, saying more asset buying could ease financial conditions further.

In a surprise move, Japan also pulled interest rates on the yen back to zero on Tuesday and pledged to pump more funds into an economy struggling to compete while the currency remains close to a 15-year high against the dollar.

Investors fleeing the dollar and yen have strengthened the euro, a bugbear for France in particular.

EU leaders on Tuesday echoed U.S. calls in urging China to allow an "orderly, significant and broad-based appreciation" of the yuan but they admitted that Chinese Prime Minister Wen Jiabao, in Brussels for a summit, did not agree.

Other G20 members have also been inching towards more action, with Turkey buying more foreign currencies and South African policymakers attempting to talk down the rand.

G7 finance ministers this week will discuss economic growth issues but they will also look at inflexible currencies, Canadian Finance Minister Jim Flaherty, chairing the gathering on Oct. 8 in Washington, has said.
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