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[LONDON] Investors have become acclimatised to developed economies trying to boost growth by devaluing their currencies, taking away the one-way bets on exchange rates such actions created in the recent past.
The Bank of Japan, the European Central Bank and Sweden's Riksbank are all creating new money through asset-purchase programmes, have interest rates below or close to zero, and are expected to ease policy further in 2016.
Their aim is to weaken demand for their currencies and boost inflation and growth as their exports become more competitive and imports get pricier. But it is not working out as they hope.
Far from losing value, the yen hit a 4-1/2-month peak against the dollar this week and the euro hit a 12-week high on a trade-weighted basis. The Swedish crown is near 10-month highs versus the euro. This year might well be volatile, especially if the first two weeks are anything to go by. But it looks unlikely to give currency investors many clear, directional trades, in contrast to recent years.
A 25 per cent rally in the dollar in the nine months to March 2015, for example, delivered hefty returns for investors who had bought it against pretty much any major currency.
Even though the US Federal Reserve has just raised rates and is expected to hike at least twice more in 2016, its rally is not thought to have much further to run.
In all, 43 central banks eased policy in 2015. If everyone is fighting, central bank "currency wars" effectively become a zero-sum game. "Central banks' mandates are almost becoming mutually exclusive," said BNY Mellon FX strategist Neil Mellor, in London. "It's a staggering situation when you've got a negative deposit rate and you can still see your currency appreciate."
Market turmoil is also muddying the waters. Investors are turning towards safe havens such as the yen, rattled by sliding shares and a weakening currency in China as well as geopolitical threats such as the rift between Saudi Arabia and Iran.
The Japanese currency recorded its best weekly performance since August 2013 last week, and speculators held more long than short positions on the yen for the first time in more than three years, meaning they expect it to strengthen.
Expectations for the extent of monetary loosening that central banks are willing to undertake have increased too, making the bar much higher for surprising markets.
In the 12 months after the US Federal Reserve introduced its asset-purchasing quantitative easing (QE) programme in late 2008, creating a global wave of competitive devaluations, the dollar fell 15 per cent on a trade-weighted basis. But with the Fed's "QE2" in 2010, it strengthened.
Similarly, in the year after Shinzo Abe came into power in Japan in late 2012, promising massive stimulus to prop up the economy and boost inflation, the yen fell 20 per cent against the dollar. But in the year after the BOJ expanded QE in October 2014, the yen's fall was just 10 per cent.
The ECB expanded an already aggressive easing package last month: it cut its deposit rate to a record low of -0.3 per cent and increased the size of its bond-buying programme to almost 1.5 trillion euros (US$1.6 trillion).
But having expected a bigger rate cut and an even greater expansion of QE, investors were left unimpressed. The euro surged by 4 US cents, its biggest daily rise in seven years.
"Central banks have reached a point of diminishing returns to their unconventional policies...(and) can no longer 'shock and awe' the markets," said London-based hedge fund SLJ Macro Partners' founder Stephen Jen, who specialises in FX investment.
Jen says too that many currencies that were considered overvalued a few years ago, such as the yen and euro, have now fallen considerably, helping make 2016 "not as clean a story as the last three years". Against the dollar, the yen is down a third since early 2012, while the euro has fallen by around a quarter since mid-2014.
This year the greenback is expected to rise only around 3 per cent against a basket of major currencies. The euro is forecast to weaken only to about $1.03, from $1.09 currently, with many banks having abandoned their calls for it to fall to parity with the dollar.
Not only are central bank policies having less effect on their currencies, but the impact those exchange rates have on inflation and exports has also waned.
According to the World Bank, currency devaluations are around half as effective at boosting exports as they were two decades ago, because of the growth of global supply chains: many parts of a finished exported product have to be imported, making a weak currency a double-edged sword.
Danske Bank strategist Stefan Mellin, in Stockholm, says the correlation between exchange rates and inflation has grown weaker over the years, while that between commodities and inflation has risen.
The Riksbank gave its governor powers last week to intervene to weaken the currency in a desperate attempt to push up inflation, but critics say any effort to weaken the crown is likely to be futile. A Reuters poll this month found strategists expect the currency to strengthen further. "The great competitive devaluation game...has become more uncertain," Amundi Chief Investment Officer Pascal Blanque said at a Reuters investment summit in November. "The bulk of simple directional impacts in the West is behind us."