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Currency Depreciation Can Save an Economy in Crisis

March 28, 2017 • GLOBAL ECONOMY, FINANCE & BANKING, Global Capital Markets

By Ivan Illán

Amongst political and business leadership, there’s a popular bias that domestic currency depreciation and/or devaluation is negative for a nation’s economy. Instead, downward currency movements present a positive GDP benefit due to relatively favourable goods pricing offered to global consumers. Such a currency event will frequently act as a support to challenged economies during recessionary or transitionary periods.

 


One of my 2017 forecasts1 – dollar depreciation – is already being realised. The US dollar (USD) has been falling in relative value to other major currencies from its recent highs, but not because of an overnight shift in any fundamental factor. Instead, it’s due to President Trump merely commenting on his hope for a softer, weakened USD. On the day of this brief mention, the dollar fell more than 1%.2 Overall, the USD is down 3.3% from recent highs set late last year. However, a knee-jerk market reaction is unwarranted, as Trump’s comments are actually a fair desire. USD strength has had negative earnings implications to US corporations. Nonetheless, it’s simply amazing how a simple comment can elicit such swift market response on something that’s not even news.
adjusted, trade weighted basis, compared to the Euro, Canadian dollar, Yen, Pound, and Swiss franc) is up more than 22% (see chart below). This has been a direct contributor to weakening US corporate foreign sales, as exported goods and services have had their prices skyrocket to importers over the past two years. A strong USD has been blamed as one of the more serious factors weighing down on US corporate earnings, as sales through foreign business units have suffered. For S&P 500 index companies, foreign sales are down to levels not seen since 2006.3  Though USD strength is a culprit, corporate tax reform addressing domestic and foreign earnings would be a far more valuable allocation of President Trump’s time, which would drive greater US corporate net earnings. That being said, all currency valuations are relative, and this is where the opportunity lies for all businesses anywhere to improve COGS and other expenditures. If USD strength has been harmful to US corporate earnings, then the inverse would be a welcome respite.

 

 

A strong USD has been blamed as one of the more serious factors weighing down on US corporate earnings, as sales through foreign business units have suffered.

For reasons not entirely clear, discussions of any nation’s currency devaluation and/or depreciation on the nightly news are delivered with an ominous tone. But in fact, these seemingly negative currency fluctuations will more often yield beneficial domestic economic results. Whether its currency depreciation (for those which follow free-market exchange rates) or currency devaluation (for others that have fixed exchange rates controlled by a central bank), both provide the necessary fuel to allow sovereign nations a pathway out of a challenging economic environment.

 
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