NEW YORK (BLOOMBERG) - Once accused of pushing their currencies lower to spur growth, top central bankers are now looking to appreciating exchange rates to help fight the menace of inflation.
It has been almost eleven years since Brazilian Finance Minister Guido Mantega accused rich nations of waging a "currency war" by cutting interest rates to drive their economies out of recession via cheaper currencies, in turn pushing up the exchange rates of countries such as his.
Now, too much inflation has superseded too little growth as the primary concern for many economies. Against that backdrop, a rising currency can help cool prices by making products from abroad cheaper.
According to Bloomberg Economics, a 10 per cent gain in the United States dollar on a trade-weighted basis in the second quarter would knock about 0.4 percentage points off inflation in the subsequent two quarters. The impact is slightly bigger in the euro zone in the event of the euro rising 10 per cent on a similar basis.
While US Federal Reserve chair Jerome Powell, European Central Bank president Christine Lagarde and others have avoided endorsing recent gains in their currencies, they have not disavowed them either.
The result is strategists at Goldman Sachs Group and elsewhere on Wall Street are declaring a "reverse currency war" is under way as policymakers find a tool for quelling inflation in strengthening exchange rates.
"The big shift is no longer thinking that currency appreciation is undesirable," said Goldman Sachs head of European rates strategy George Cole. "It wouldn't surprise me if we increasingly see G-10 (Group of Ten) central banks recognising that actually a strong currency could be your friend during this tightening cycle."
In a report to clients this week, Mr Cole and colleague Michael Cahill suggested that as the Fed looks to tighten monetary policy more aggressively than previously predicted, counterparts will seek to keep up in part to avoid a lower exchange rate.
Goldman estimated that major central banks would need to raise rates on average by around 10 basis points to offset a 1 percentage point move in their trade-weighted currency.
Exchange rates have historically been a sensitive topic between governments who do not want to be accused of cheapening their currencies to stoke trade or to fall foul of the US Treasury's currency manipulator report. Neither do they want a beggar-thy-neighbor race to the bottom.
Swiss National Bank president Thomas Jordan noted in December that the franc's strength, which has impacted the economy for years, has at least helped the country escape the inflation spike seen in the euro area and the US.
"We have been able to prevent a stronger rise in inflation in Switzerland by allowing a certain amount of nominal appreciation," Mr Jordan said then. "It makes imports cheaper."
The phenomenon is particularly important in smaller open economies such as Singapore and Switzerland, given how key the exchange rate is when it comes to inflation and the growth outlook.
"It's a key lever of monetary policy," said State Street Global Advisors portfolio manager Aaron Hurd. "So they are right to tolerate or encourage a stronger currency as part of their overall tightening cycle."
Singapore, which uses its exchange rate as its main monetary policy tool, unexpectedly tightened in January to join the global fight against accelerating inflation, sending its currency to the strongest since October.
Bucking the Trend
For China, a stronger currency has helped offset high commodity prices that played a role in sending manufacturing costs soaring. The renminbi is the second-best performing currency in Asia on a year-to-date basis, shrugging off slower growth and repeated virus outbreaks.
That is given the central bank scope to cut interest rates as it shifts stance to support an economy suffering from a housing slump.
Japan - where too little inflation remains the problem rather than too much - is the standout from the trend. Bank of Japan governor Haruhiko Kuroda told policymakers this week that the weak yen has not boosted import costs much.
To be sure, not every economy will enjoy an inflation buffer due to a stronger currency - much depends on the make-up of their inflation basket and on local dynamics, like wage gains. A stronger currency also would not do much to depress inflation in economies that rely on domestic services for growth.
But for those central banks needing to rein in prices, allowing their currencies to strengthen is a crucial tool when combined with higher borrowing costs.