January 29, 2018

Region must use revaluation to boost economic and corporate restructuring

William Pesek

Donald Trump has mastered the art of the tease. The U.S. president’s offer to rejoin the Trans-Pacific Partnership, for example, set Asian hearts racing with hope that a looming trade war may be averted.

But the real news of the past few days did not come from the White House, but from U.S. Treasury Secretary Steven Mnuchin provoking markets with a currency war. Even though Trump walked back Mnuchin’s threat, after the dollar plunged to three-year lows, the risk of currency conflict just become serious.

So serious that Mario Draghi decried “language that does not reflect the terms of reference we have agreed.” Though the European Central Bank president did not mention him by name, Mnuchin’s broadside was between the lines in bold type.

We can dispense with debates about whether Mnuchin misspoke, even though Trump later said he wanted a strong dollar eventually. The former banker is a key executioner of Trump’s “America First” policy, and hinted at what was coming long before this year’s World Economic Forum in Davos. A dollar that Trump said is “killing us” is down nearly 8% on a trade-weighted basis since he took office. Also, Mnuchin’s comments came two days after the White House slapped tariffs on imported solar panels and washing machines, the first clear sign a trade war is not just talk.

A currency skirmish on top of that alters the calculus for Asian governments and companies in 2018.

Solar companies from the U.S. to Asia put their best spin on the tariff news. Trump’s 30% charges were lower than feared, said officials at JinkoSolar Holding, China’s biggest panel exporter, and Taiwan’s Neo Solar Power. South Korea’s Hanwha Q Cells plans to recalibrate to other markets. America’s Solar Energy Industries Association said Trump’s levies “demonstrate some restraint.”

But Trump is just getting started. Additional, and bigger, tariff moves are likely as Trump seeks to divert attention from the scandals imperiling his presidency. Trump is miffed Chinese President Xi Jinping is not curbing North Korea’s nuclear provocations. His Twitter feed also makes clear Trump is frustrated by legislative gridlock in Washington. Tariffs are one economic lever Trump can readily pull and show some political muscle.

The same goes for a currency brawl. Irony abounds as a scandal-plagued White House channels the dollar policies of Richard Nixon’s. In 1971, President Nixon’s Treasury chief, John Connally, famously said: “It is our currency, but it is your problem.” Here is Trump’s Treasury trumpeting a similar note 47 years later. Though he left the job before Nixon resigned in disgrace in 1974, historians will have a field day exploring parallels.

Trump’s about-face on Washington’s 23-year-old strong-dollar policy has both pros and cons for Asia.

Bad news first. Mnuchin’s statement pushed the yen to a three-year high, complicating Shinzo Abe’s efforts to defeat deflation. Last week, the Bank of Japan doused speculation it might step away from quantitative easing, a decision largely aimed at capping the yen. Mnuchin’s words came hours before South Korea announced its economy contracted in the fourth quarter. They came, too, amid slowing industrial production in Singapore, whose open economy is often a weathervane for global demand.

Abenomics may face fresh headwinds at the worst possible moment. The second-longest growth spurt since World War II and the lowest unemployment in 24 years are not driving commensurate wage gains. Prime Minister Abe’s push for Japan Inc. to boost salaries 3% just got harder as Toyota Motor, Sony, Mitsubishi Materials and others brace for a stronger yen. Worse, the magnitude of the dollar’s descent is imponderable. It could all turn on a morning Twitter rant from the tweeter-in-chief. The Nikkei Stock Average could easily start racking up more down days than rallies.

Korean President Moon Jae-in is already on the frontlines of Trump’s protectionist bent and general unpredictability. Trump demanded a renegotiation of a U.S.-Korea free-trade deal in effect since 2012. Last week, Samsung got pulled into Trump’s Russia probe drama as he blamed a reported software glitch on Korea’s biggest company for the loss of 50,000 text messages he believes would help his legal case. LG, meantime, warned U.S. retailers of higher washing-machine prices, presumably to the detriment of the Korean electronics giant’s profit outlook.

There also are myriad possible retaliatory actions to consider. One is tit-for-tat currency depreciation in Beijing, Seoul and Tokyo that drives a race to the bottom. Another: rising bond yields as bets against the dollar accelerate. That could dent U.S. growth and hit the value of the more than $3 trillion of Treasury securities held by major Asian economies. The strong-dollar maxim inaugurated by Bill Clinton’s White House reassured countries that Washington would not seek unfair trade advantage. Mnuchin just proclaimed those days over.

The good news: Rising currencies are an opportunity for Asia to raise its competitive game. China’s muted response to Trump’s tariffs rates as a positive turn of events. Perhaps Xi does not want to provoke Trump by retaliating.

The real positive, though, is a change in incentives. No region has arguably spent more time, energy and resources obsessing over exchange rates than Asia. This collective corporate welfare is a crutch that deadens the urgency for policymakers and executives to restructure and innovate. This dynamic might be more palatable if companies were using weak-currency profits to increase wages. Instead, shareholders get most of the fruits of workers’ labors, not consumers.

Japan is Exhibit A, of course. The signature policy of Abenomics was, at least initially, a 30% yen devaluation. Trouble is, a lower exchange rate did not make Japan Inc. more productive or innovative. It did not result in a wage surge. It did not catalyze a corporate governance revolution. It did not prod Shinzo Abe’s team to loosen labor markets, inspire a startup boom, cut bureaucracy, better utilize the female workforce or address demographic challenges posed by a fast-aging population. It did not result in a pro-growth energy policy that champions renewables over nuclear power. It did not nudge companies to reduce takeover defenses and welcome loads more foreign talent and ideas.

Instead, a weaker yen took the onus off Japan Inc. to build muscle to take on an increasingly dominant China. Rather than retool operations and take bold risks, executives papered over cracks with weak-yen-driven profits. The same goes for Korea’s family-run conglomerates, or chaebol. Seoul’s efforts to cap the won relieved pressure to raise competitiveness.

Asia must recognize what rising exchange rates signify. It is a sign of strength, a vote of collective confidence, that pulls in foreign capital, reduces bond yields, curbs inflation and reinforces national balance sheets. If only Asia would embrace these benefits, it could retort in words that echo Connally: It is our booming economies, Mr. Trump, and it is your problem as investors swarm eastward.


William Pesek is a Tokyo-based journalist and author of “Japanization: What the World Can Learn from Japan’s Lost Decades.” He has written for Bloomberg and Barron’s.

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