Dollar’s Surge Making 1980s Traumas Great Again

The 1980s are back in Asian economic circles, and not in a good way.

The most obvious time-warp dynamic is Donald Trump’s desire to make great again policies that might’ve worked 40 years ago. A centerpiece of the former U.S. president’s strategy to win another term is a 60% tax on Chinese goods. And 100% tariffs on certain auto imports, a precedent that frightens Japanese and South Korean executives.

Yet another 80s throwback is unnerving Asia: a return to the foreign-exchange narratives of that era.

Look no further than the Japanese yen, something that triggered then-businessman Trump to no end. Back then, Japan and its weak yen was the sinister force that, as Trump put it, had “systematically sucked the blood out of America.” Today, China inhabits that role in Trump’s worldview.

Here, it’s worth noting that Trump once owned New York’s Plaza Hotel, where modern history’s most important currency pact was forged. That 1985 deal sent the yen soaring, giving the U.S. a big trade advantage. Not surprisingly, Trump thinks his “art of the deal” can engineer a new Plaza Accord with Chinese leader Xi Jinping to remake the world order.

Yet ahead of the Nov. 5 election, the 80s bookend that matters most is a yen exchange rate possibly heading back to 170 to the dollar.

Analysts at T. Rowe Price and other financial groups think the odds of returning to that level — from around 158 now — are rising as the Japan’s Ministry of Finance and central bank allow the yen to slide. It’s already down 12% since Jan. 1 and 14% over the last 12 months.

The problem, of course, isn’t just benign neglect on the part of Tokyo. It’s also a stubbornly strong dollar.

Episodes of extreme dollar strength don’t tend to end well for Asia. The most emotionally triggering example is the 1997 Asian financial crisis. That crash was precipitated by the same phenomenon behind the dollar’s latest bull run: aggressive Federal Reserve tightening.

The Fed’s 1994-1995 tightening cycle set the stage for Asia’s reckoning. At the time, the Fed, then under the leadership of Alan Greenspan, doubled short-term interest rates in 12 months. The dollar’s resulting multi-year rally made currency pegs in Asia impossible to maintain. Thailand was the first to devalue in July 1997. Soon after, so did Indonesia and South Korea. Malaysia imposed capital controls.

This time, it’s Fed Chairman Jerome Powell’s team slamming hard on the brakes and sending the dollar skyward. Nor does this Fed lineup seem inclined to cut interest rates this year. Asian policymakers entered 2024 believing five or more Fed easing moves were a foregone conclusion. Talk now is that the Fed might not cut rates at all amid inflation worries.

The result is an even greater gravitational-pull dynamic surrounding a surging dollar. It’s the last thing Asia’s export-driven economies need.

As capital zooms toward dollar assets, the Chinese yuan is under downward pressure. Its 2% drop this year is a fraction of the yen’s losses, but it risks aggravating one of China’s biggest risks: defaults among giant property developers.

The more the yuan falls, the harder it becomes for China Evergrande Group and peers to make offshore debt payments. Also, it risks making China a top election flashpoint as Republicans loyal to Trump and President Joe Biden’s Democrats come to blows over the next 195 days.

A sliding yuan would put Democrats and Republicans on the same page faster than clamping down on ByteDance’s TikTok. Xi’s inner circle would be wise to resist a race to the bottom with the yen. The same goes for the Thai baht, Indonesian rupiah and Korean won.

Another reason Xi should be careful about yuan depreciation is to avoid repeating Japan’s mistakes. Among the biggest: a weak currency deadens the urgency for governments and corporate chieftains to raise a nation’s economic game.

Imagine if any of the 12 governments that ran Japan since 1998 had prioritized cutting bureaucracy, modernizing labor markets, increasing productivity and empowering women over currency depreciation. What if CEOs had to go without zero-to-negative rates? History’s biggest corporate welfare boom took pressure off chieftains to restructure, innovate and take risks.

We’ll never know where Japan might be in 2024 without a quarter century of Argentina-like currency policies. But we do know the lessons China and other developing economies must heed from Tokyo’s complacency.

Yet the runaway dollar is upending Asia’s year as ginormous tidal waves of capital exits the region’s bond and stock markets. It’s putting downward pressure on currencies amid rising global inflation risks.

And as 1980s currency narratives return from Japan to the U.S., the months ahead are likely to be anything but great for global markets.