Alex Coiov, 11A
Introduction
Over the last few months, the American dollar has appreciated tremendously compared to other world reserve currencies (trustworthy, reliable, and stable currencies that are often used for trade on a global scale), such as the Euro, the British pound, the Swiss franc, the Japanese yen, the Chinese renminbi (also called yuan), the Australian dollar, and the Canadian dollar, due to several reasons. For instance, the war in Europe with its looming energy crisis, the questionable fiscal (governmental) policies utilised in the UK by the newly-elected Prime Minister Liz Truss (reduced taxes for the rich and influential), and elevated inflation levels worldwide all play a crucial role. Therefore, investors and financial markets headed toward the American dollar, which is now perceived as a ‘safe haven currency’ (i.e., a currency that is expected to retain or increase in value when it seems like the world is ‘coming to an end’) [1], because:
- most trades among countries are dollar-denominated (especially fossil fuel trades: natural gas, crude oil, and gasoline);
- US government bonds have always been regarded as trustworthy due to the country’s important place in the global economy (government bond = government debt; essentially, when governments need money to fund their projects, they issue certificates, bonds, which have a fixed value, for instance, $100, that is paid at the bond’s maturity date alongside the ‘coupon rate’, a fixed % of the bond’s initial price, which is paid annually; for example, a 10-year, $100 bond with a 3% coupon rate pays $3 annually for ten years, after which the $100 are paid to the investor upon ‘maturity’ when the ten years have passed => $100 becomes $130 over ten years);
- and due to the Federal Reserve Board’s (FED’s) inflation-reduction policies, which increased the strength and trustworthiness of the American dollar (The ‘Federal Reserve Board’ is the US’s central bank = ‘the bank of all banks’, the mother bank that oversees all banking activity).
Nonetheless, arguments explaining how these currency fluctuations impact the EU, the UK, and Romania will be provided below.
1. The EU
In a nutshell, a strong dollar, an energetic shock, and a falling demand for the continent’s exports due to the harsh covid restrictions imposed in China all worsen the current conditions in Europe. Nevertheless, a surging American dollar implies higher prices for Europeans importing fossil fuels while simultaneously leading to a capital flight between the two regions (explanation: due to the economic uncertainty caused by the energy shock and the Russian war in Europe, investors are fleeing the European markets in search for a safe haven, the United States). Consequently, European Central Banks, among which the ECB (the ‘European Central Bank’ = the mother of all banks in the Euro Zone) and BNR (‘Banca Națională Română’) must pursue contractionary, inflation-fighting policies to increase the strength of their currencies, thus reducing imported inflation from fossil fuels and cooling their respective economies.
However, such policies will undeniably reduce economic growth, hence the trade-off. If central banks raise interest rates (= a tool utilised by central banks to reduce inflation) excessively and too fast, the European economies may experience an economic crisis (called ‘recession’), which is characterised by a decreased economic output (production) and increased unemployment. Although economic growth in the EU has slowed in recent months, the labour market is sound, and unemployment levels are low compared to long-run averages.
2. The UK
The newly-elected British Prime Minister, Liz Truss, is a goal-driven, pragmatic, and analytical lady that definitely knows what she wants: growth. Economic growth must be achieved. In her opinion, it is imperative for the British to stop importing two-thirds of their cheese from abroad (‘That is a disgrace!’) [2] in order to restore the greatness of the country. However, people have been wondering how such an event (economic growth, not cheese) can occur without increasing pressure on the British population, suffering due to the already skyrocketing inflation. According to Liz Truss, economic expansion can be achieved by increasing ‘fracking’ in the North Sea, a deleterious process of extracting natural gas, thus adding to the environmental issues that have been negatively impacting the world. However, cutting taxes, especially for the rich, will boost growth and investment, too, right? (Her initial wish was to cut the upper-bracket tax rate by 5%, from 45% to 40%, and eliminate caps on bankers’ profits, essentially allowing people in the financial sector to raise their salaries to the moon; however, these proposals were so unpopular that she risked losing the public’s trust, hence the necessity to back down on such tax cuts). [3]
These fiscal reforms were so controversial and badly projected that foreign investors and financial markets lost even more faith in the British economy, with the British pound plummeting 5% in a day against the dollar (it later recovered), a drop that would usually occur during the span of a couple of months. However, the recovery was not smooth either - the BoE (Bank of England, England’s central bank) had to resort to extreme measures to protect the pound from further free-fall, which will be seen in the upcoming inflation reports.
Nevertheless, with an uncertainty-ridden pound ‘due to too many cheese imports’ and a shell-shocked euro, the dollar appears more and more as a safer bet.
3. What about us?
Romania is an Eastern-European country that has adopted the RON as its national currency, thus having its financial institutions and central bank. Although the RON is not a reserve currency and is not utilised for trade on a global scale, a surging American dollar impacts the country nonetheless. Pricier fossil fuel imports and turmoil in the Euro Zone due to capital flight and energy shocks will undoubtedly impact Romania, even if it is performing well economically. Growth is strong, albeit at a slower pace (GDP Growth Rate Quarter on Quarter is 1.8%) [4], and the unemployment rate keeps going down, even though inflation still reigns.
Conclusion
To sum up, a stronger dollar means that America ‘exports’ its inflation to other countries, as fossil fuels and other dollar-denominated goods become more expensive. Concomitantly, a surging dollar aggravates the European energy shocks, the UK political turmoil, and the capital flights from Europe to the US. Romania will not inherently suffer directly from these currency wars, but everything is inextricably intertwined in this globalised world (Europe is Romania’s biggest import/export partner); thus, these effects will make their presence well-known in the Balkans, too.
Bibliography
1. Chen, J., ‘Safe Haven’, Investopedia [website], 30 June 2021, <https://www.babypips.com/forexpedia/safe-haven-currencies>, accessed 10 October 2022.
2. When Liz Truss branded Britain’s level of cheese imports ‘a disgrace’, [video], YouTube, 21 July 2022, <https://youtu.be/aj49CogLemQ>, accessed 10 October 2022.
3. Eardley, N., ‘How tax cut policy U-turn was decided’, BBC News [news website], October 2022, <https://www.bbc.com/news/uk-politics-63116327>, accessed 10 October 2022.
4. Trading Economics, ‘Romania GDP Growth Rate’, Trading Economics [website], 2022, <https://tradingeconomics.com/romania/gdp-growth>, accessed 10 October 2022.