exchangeOver the last year, the world’s central banks have materially diverged from their long term actions in one specific area – foreign exchange policy.  Many have chosen this specific area of their remit to make a dramatic change.

This new strategy, representing Central Bank Policy Divergence, has been to let their exchange rates fall as a means of enhancing their country’s trade position, and to thereby improve both their faltering domestic industrial production and their deteriorating employment markets.  Countries have shocked the financial markets by adopting a policy of unexpected bank interest rate cuts to achieve this goal of weaker foreign exchange rates.

This policy is most noticeable in European countries, but recently Canada jumped on the bandwagon.

The European Union finally abandoned its long practice of nonsensical tough monetary policy in the face of significant economic challenges.  At a late stage in the downward economic cycle that emanated from the 2008 financial crisis, late last year the European Central Bank began a new policy of Quantitative Easing (QE – flooding the market with excess money supply to improve demand) and reducing its bank lending rates.  Better late than never.

Similarly, Switzerland shocked the market in January 2015 when it abandoned a fixed exchange rate to the US dollar.  This caught investors and hedge funds completely off guard and led to significant losses for them.  The action was dubbed a ‘currency tsunami’ by the press and investors alike – in one day, US$90 billion was wiped off the market value of Swiss stocks.

Sweden also lowered its benchmark interest rate below zero for the first time in its history.  Australia lowered its central bank interest rate to a record low in February 2015.  And in January 2015, the Bank of Canada surprised the market with the same and stated its intention to repeat this later in the year.

This is all a significant change from the world’s collective monetary authorities.  It represents a new and proactive approach to intervening in financial markets to improve domestic manufacturing and employment – normally the remit of government rather than a central bank.

What is the United States to make of this?  After all, it is that country’s exchange rate which is, in essence, suffering as a result – i.e. the US dollar has markedly strengthened against all other currencies, thereby reducing its trade advantage.  Fortunately, the U.S. economy stands alone by continuing to strengthen in domestic manufacturing and employment.  Regardless, the U.S. monetary authority continues its perplexing policy of warning investors that it intends to raise interest rates in the near future.  This in the context of no domestic inflation, stable U.S. employment markets that are still not close to full employment, and a moderately growing economy.

I fear that the U.S. monetary policymakers are far off the mark in their assessment of appropriate monetary policy going forward.  International monetary authorities are taking advantage of this errant policy and, through a lowering of their central bank interest rates, are setting themselves up to be the principal beneficiaries of it.