Let 'Artificially' Low British Pound, Euro and Yen Recover to Avoid Provoking the US into a Trade War: Pimco's Fels

Joachim Fels, Pimco’s global economic adviser, has suggested the Bank of England is keeping Pound Sterling artificially weak.

In a recent editorial Fels says the world is witnessing a ‘Cold Currency War’ whereby currencies are kept artificially low by “covert actions and words.”

The call comes amidst heightened scrutiny of currency manipulation - covert or otherwise - by sovereign states and reserve banks with Donald Trump believing the practice is disadvantaging the United States.

Trump and his team are fighting back against the strong Dollar White House trade advisor Peter Navarro recently alleging that Germany is using a “grossly undervalued” Euro to “exploit” its trading partners.

We have meanwhile noted here that if any currency is being artificially priced then the Swiss Franc is the biggest offender.

The Bank of England’s Covert War

Fels has argued before that the European Central Bank (ECB), the Bank of Japan (BOJ) and the People’s Bank of China (PBOC) opened the cold currency war through guarded actions that contributed to the depreciation of their currencies against the dollar during the second half of 2016.

However, Fels believes two other central banks seem to have entered the cold currency war in 2017, even if their statements are not primarily directed at their currencies.

And one of them is Trump's own central bank.

The US Federal Reserve, “in its post-FOMC meeting statement on Wednesday, refrained from trying to push the already low March rate hike expectations higher through more hawkish language,” says Fels.

The economist believes the Fed was vindicated by the January labor market report that showed strong employment growth but easing wage pressures and a rising unemployment rate due to a jump in labor force participation.

As a consequence, the probability of a rate hike in March priced into fed funds futures eased to only 15% and the Dollar weakened accordingly.

“A day later, the Bank of England raised its GDP forecast in the quarterly Inflation Report but dropped its estimate of the NAIRU (the non-accelerating inflation rate of unemployment) significantly, thus sending a dovish signal that helped depreciate the Pound,” says Fels.

The argument is given some credence by Bank of England MPC member Kristin Forbes who said in a speech delivered a week later that she believes an interest rate rise at the Bank of England could now be warranted.

In her opinion the UK economy was too strong to warrant such an easy supply of money. Furthermore, the dangers of inflation overshooting current forecast targets remains elevated.

This suggests the Bank may not be unified in their stance on the appropriate interest rate settings in place.

If more Bank policy-makers shift to her view, then Sterling could well recover further.

Fels believes moving forward the reality of an all-out currency war has become more likely as the United States appears willing to use protectionism to defend US manufacturing and labour.

The Pimco economist argues that with because the US runs a large trade deficit with Europe, China and Japan it stands to lose much less from a trade war.

"The rational response by Europe, Japan, China and other exporters would be to not overdo the cold currency war and, at least temporarily, allow some appreciation of their currencies versus the Dollar in order not to provoke the U.S. further," says Fels.