Thanks to Brexit, the French may not buy as many American pharmaceuticals this year. Germans probably won’t buy as many Japanese printers. It’s the best time in recent memory for a non-Brit to drive home a new Jaguar, but no one in Britain should be too excited about that.
Britain's vote to leave the European Union has shocked the global economy in an unusual way, unleashing a currency war in which all sides appear likely to lose.
In the wake of the June 24 vote, the value of the British pound has plummeted, falling from $1.48 per pound Thursday to $1.34 this morning, hovering around the lowest level in 30 years. The U.S. dollar and the Japanese yen have surged. And unlike in normal times — when currency fluctuations tend to make winners and losers — this time all three countries are now bracing for currency-driven slowdowns in their economies. And they may not be alone, dragging along countries from Brazil to China along with them.
The turmoil in foreign exchange markets since Brexit exemplifies a new world order. A strong currency used to be the hallmark of an advanced economy, a symbol of financial stability and international influence. Developing nations took advantage of their currency’s weaker status to export their way to economic success.
But now, those rules no longer seem to apply. Japan is bemoaning the strength of its currency, the United States is chastising others who kept their currency too weak (and thus the dollar too strong), and emerging markets such as Brazil are trying to prop theirs up. Britain suddenly finds itself in a similar boat to many developing nations, less concerned with how a weaker currency might boost its export sectors and more with the faltering economic prognosis that is driving investors away from the pound.
The U.S. dollar has jumped 3 percent since the vote last week, capping off a whopping 25 percent climb from mid-2014 to spring 2015. Those substantial gains have made American exports less competitive overseas, dimming a sector that had been a bright spot in the nation’s economic recovery. An analysis by the Federal Reserve Bank of New York estimated that a 10 percent spike in the dollar can slow the U.S. economy by half a percentage point.
For the first half of this year, America’s manufacturing exports have fallen to four of its five largest trading partners. The only exception — the only source of export growth in that group — had been Britain. Now, the rapidly depreciating pound will make it much harder for British consumers now to buy American goods, such as aircraft parts and computers.
“It’s just one more headache for us to really face,” said Chad Moutray, the chief economist for the National Association of Manufacturers in Washington. “You add more uncertainty to the overall mix, and to the extent the dollar strengthens, that makes it more challenging for us to grow our international demand.”
Even before Brexit, American businesses ranging from Oracle to Costco were feeling the weight of the greenback. Analytics firm FactSet forecast that businesses in the S&P 500 that rely on foreign markets for the majority of their revenue will report a nearly 10 percent decline in profits for the second quarter — nearly twice the amount of companies whose sales are primarily domestic.
In Japan, Brexit has caused the yen to strengthen more than any other major currency. The Nikkei 225 stock index fell Friday more than any index outside of Europe, its worst drop in five years, before rebounding partially early this week. In the 24 hours after the British vote, Japan lost nearly the same amount of wealth as after the 2011 nuclear meltdown that threatened to leave a wide part of the country uninhabitable.
The yen tends to strengthen any time investors worry about the world’s path. And Japan, to put it bluntly, does not want a strong yen — and may be out of tools to weaken it.
Japan spent the past several years using every last policy tool just to keep its currency as weak as possible.
Well before the Brexit, the Bank of Japan was on an unprecedented bond-buying binge. Interest rates were already negative.
And for all this, Japan had earned itself an unsatisfying half-recovery, where wages were stagnant and growth was flat — but at least its big export-heavy titans were raking in record profits. The Nikkei between 2012 and 2015 had been one of the world’s fastest-growing stock markets — the one economic achievement for Prime Minister Shinzo Abe, who had pledged to pull Japan out of its two-decade stagnation.
But Japan earned that recovery by making a risky bargain: Its central bank was using crisis-time tools during a period of relative tranquility, meaning it had little in its pocket to combat the next crisis.
“Now, there’s not much the Bank of Japan can do” to help the situation, said Takuji Okubo, the chief economist at Japan Macro Advisors in Tokyo. “We could argue that the Bank of Japan has nearly exhausted its means to ease monetary conditions.”
Because Japan is such a big exporter, many of the nation’s corporations — think Toyota, Mitsubishi and Toshiba — receive the bulk of their income in foreign currency. When the yen gains, their profits erode. Take the example of Toyota, which manufactures cars at several major plants across the United States.
On the morning of the Brexit vote, $1 million earned in the U.S. would be 106 million yen back home. Twenty-four hours later, that same $1 million had the value of 102 million yen.
The strengthening of the dollar, meanwhile, figures to ripple even farther through global markets. Recent research co-authored by David Beckworth of the Mercatus Center at George Mason University found that countries that link their currencies to the dollar — either explicitly or implicitly — account for about 40 percent of the global economy.
China is one of the prime examples. Because the yuan is loosely pegged to the dollar, the surging greenback has complicated Beijing’s attempts to cushion the slowdown of its economy as its transitions from relying on exports to catering to consumers. On Monday, China’s central bank reportedly lowered its target for the yuan’s value against the dollar — effectively weakening its currency — as it tried to mitigate the fallout from Brexit. It was the biggest move since government officials devalued the currency last summer.
That weakening is a blow to several major Japanese industries, including manufacturers of cars, LCD displays and circuit chips, all of which sell briskly in China.
“By itself, maybe Brexit wouldn’t be so bad for the global economy,” Beckworth said. “But Brexit was done in the middle of a toxic, economic soup.”
The dollar is also the denomination of choice for a rising amount of debt held outside the United States. In 2000, it totaled just over $2 trillion. The most recent data from the Bank for International Settlements shows it has nearly quintupled since then, reaching nearly $10 trillion at the end of last year.
The explosion in dollar-denominated debt around the world means that those loans become more difficult to pay off for foreign borrowers to pay off as their own currencies fall in value to the greenback. Roughly a third of that debt is concentrated in emerging markets.
In Britain, there are worries that the rapid fall of the pound will spark faster inflation. The bigger worry is that it reveals a fast-spreading weakness in the British economy.
“For the U.K., this creates enormous uncertainty, but it also is a fundamental change in their competitiveness. And I don’t think even the very large fall in pound sterling that we’ve seen is going to be enough to make up for that,” said Adam Posen, the president of the Peterson Institute for International Economics in Washington on Friday. “They had a role in Europe as a financial center and even almost more importantly as a beachhead for foreign companies, particularly U.S. companies wanting to export into Europe. And that’s frankly going to go away.”
The pain has already manifested in one storied British institution: It is now suddenly less lucrative to win Wimbledon. Since Friday, the dollar value of the top prize in both the men’s and women’s singles tournament, now underway, has dropped by some $350,000.
Max Ehrenfreund contributed to this report.