Macroscope | Is another Asian currency crisis coming? Keep an eye on China’s yuan

Is another Asian currency crisis in the offing? There is a lot of noise around this idea as the region’s key currencies continue to depreciate against the mighty US dollar. But it will hopefully prove to be a storm in the proverbial teacup provided that China and others keep their nerve.

The Japanese yen has been described by some commentators as being in “free fall” but this is exaggeration bordering upon hysteria. The bigger danger is not a collapsing yen but the possibility that an economically beleaguered China could be pushed into a major devaluation of the yuan.

At the root of the problem is the perceived strength of the US dollar, and the impact this has on capital outflows from Japan and other Asian economies into the greenback as yield differentials continue to widen and currency values adjust accordingly. Government bond yield differentials in favour of the United States have hovered near 400 basis points lately, while the yen has continued to weaken.

This has prompted much chatter about the danger of a new Asian financial crisis similar to the one that struck in 1997. This time the impact could be worse, given the huge weight that China and other Asian economies have in the global economy now.

A Bloomberg article published on May 9, for example, was headlined, “Yen’s fragility raises spectre of a new currency war in Asia”, reporting that investors are alarmed at the prospect of competitive devaluations that could trigger such a war.

There is some superficial similarity with 1997 given that capital outflows were triggered both then and now. But 27 years ago, the basic cause was fixed exchange rates in Asia while today rates are flexible and many nations are better equipped to defend them.

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