Remembrance Day was yesterday. On November 11th we celebrate the end of the Great War at the ‘eleventh of hour, of the eleventh day, of the eleventh month’ in 1918. Almost 96 years later, I want to briefly talk about the beginning of that war and apply to it to another war: the currency war. I’ll show you three signs that the trench warfare of the last three years is wearing out the world’s largest economies, not to mention savers and investors.
You cannot talk about the First World War without understanding the German obsession with the Battle of Cannae in 216 BC. It was the major battle of the Second Punic War between Rome and Carthage. Using a ‘pincer movement’, the Carthaginian general Hannibal destroyed a vastly superior Roman army. You might say it was Rome’s Vietnam, and in historical terms, it flagged the end of the Republic and presaged the rise of the Empire.
From the Great War to the Currency War
German generals must have been attracted to the aesthetic appeal of Cannae. It was an elegant, decisive, and brutal victory. It was meticulously planned and flawlessly executed. You can see why it appealed to German sensibilities.
The German plan to invade France had been carefully laid out for years prior to the actual invasion in August, 1914. The Schlieffen Plan was the German plan for total strategic victory, calculated down to the last second. It involved a Cannae-like pincer movement.
One army would swoop on the French from the East, while the German First Army, under General Alexander von Kluck, would wheel around anti-clockwise through Belgium and North Eastern France. It would sweep West of Paris before turning East to join the other tong in the pincer. The French would be trapped in the teeth of a great German jaw.
And then history swerved from her assumed course. Instead of continuing toward the Atlantic and marching West of Paris, the German advance turned left to soon. Von Kluck swung his army around in a great wheel, leaving Paris, and his flank, on the right. General Gallieni, charged with the defence of Paris, commandeered the city’s taxis in a brilliant improvised, early example of mechanised warfare and rushed men into battle.
The result was the First Battle of the Marne. And what started as a war of manoeuvre became a war of attrition. The armies dug in. By October the front was mostly static. And by November, the heavy fortifications began.
We now remember it as a brutal war of attrition. But the German plan counted on speed and movement to catch the French unawares. Once the plan broke down, neither side really had a plan B. It was just years of grinding death from gas, artillery, and senseless headlong charges ‘over the top’ of the trench wall and into no man’s land.
World War Zzzzzzz
In September 2010 Brazil’s Finance Minister Guido Mantega warned that the world was on the brink of a great currency war. The US Federal Reserve’s commitment to currency weakness through Quantitative Easing was a great global offensive with the aim of weakening the dollar. Here are some of the key campaigns since 2010:
- From September 2010 to August 2011, the US dollar gold price rallied almost 30% and nearly reached $2,000 per ounce
- 2012 saw the global hunt for yield as investors were forced to become speculators in a low interest rate world.
- From November 2012 to May of 2013, Japan’s Nikkei 225 rallied 72% after Japan fired the second big shot in the war, announcing its intention to double the monetary base.
- The S&P 500 has rallied nearly 23% year-to-date
Currency wars are really a battle to steal growth from other countries by having a cheap currency. In that sense it’s an unusual way to wage war. Your enemy is also your customer. And the main casualties are the savers in your own country, whose purchasing power is eroded by your grand strategy.
But paradoxes aside, you can see the progression of the war against sound money. First, as the dollar fell to the Fed’s assault, gold rallied. Then as the gold trade became crowded with speculators, the hunt for yield blew up the junk bond market to post GFC highs. Japan initiated its attack. The main result was an incredible 72% rise in Japanese blue chips. And in the last year, with the Fed’s relentless bond-buying and ‘non taper’, US blue chip stocks have routed all comers.
Now we are in the throes of what I like to think of as World War Zzzzzzz. The world’s investors are hunkered down in their trenches. Last week we learned that 31% of Japanese households have no financial assets left. That’s highest proportion of the population since Japan began keeping figures in 1963.
In its war on deflation, the Abe government has slaughtered those on fixed incomes. Low interest rates hurt those on a fixed income the most. As a result, the Japanese have been replacing income with savings. But eventually even those run out. Besieged by low interest rates, more and more Japanese are income starved and asset poor.
Meanwhile, the European Central Bank (ECB) ventured a meagre but meaningless attack on the Western Front. The ECB cuts its benchmark interest rate from 0.50% to 0.25%. It’s a 50% cut. But the base is so low that it’s all but meaningless unless you’re a financial institution.
If anything, this highlights that the weapons at the disposal of central banks and policy makers are increasingly powerless in the face of the problems they’ve created. Rate cuts and deficit spending don’t produce economic growth. The ECB will have to do something more dramatic if it aims to move asset prices higher or the euro lower.
And then there is China. In the fog of this currency war, the Chinese slowly take steps to internationalise their currency, the yuan. They see it as a replacement for the US dollar, eventually. But not just yet. For now, steps like creating a bond market denominated in Yuan are slow, deliberate measures to prepare for a world after the dollar falls.
The impoverishment of Japanese savers…the ECB’s feeble attempts at doing the same thing and expecting a different result…and China’s methodical march toward internationalising the Yuan…these are three signs that the currency wars are closer to the end than the beginning. But who will win? And how will it end?
Those are the big questions for 2014 and beyond. Once the Battle of the Marne settled down to a war of attrition, positions hardened all across the Western Front. There was virtually no movement for years. All the big breakthroughs that led to the end of the war came from the East.
That may be the case in the currency wars, too. Western central bank policies favour the accumulation of financial assets and blue chips stocks. But it’s just a way of keeping your powder from blowing up. It’s not real wealth creation or preservation. It’s wealth desperation.
The real action will come if and when China and the other emerging markets formally attack the dollar system. Can they afford to do so? When will they do it? What happens then? Stay tuned.
Dan Denning+
Contributing Editor, Money Morning
