What would a US/China Plaza Accord do to the Australian dollar?

See the latest Australian dollar analysis here:

Bonds, not stocks or houses, are pointing to Australia’s future

More trade scuttlebutt this afternoon, via Bloomie:

The White House is looking at rolling out a previously agreed currency pact with China as part of an early harvest deal that could also see a tariff increase next week suspended, according to people familiar with the discussions.

The currency accord — which the U.S. said had been agreed to earlier this year before trade talks broke down — would be part of what the White House considers to be a first-phase agreement with Beijing. It would be followed by more negotiations on core issues like intellectual property and forced technology transfers, the people said.

The only deal worth doing to lift the yuan versus the US dollar. This may be reminiscent of the 1985 Plaza Accord with Japan. From Investopaedia:

The Plaza Accord is a 1985 agreement among the G-5 nations—France, Germany, the United States, the United Kingdom, and Japan—to manipulate exchange rates by depreciating the U.S. dollar relative to the Japanese yen and the German Deutsche mark.

Also known as the Plaza Agreement, the intention of the Plaza Accord was to correct trade imbalances between the U.S. and Germany and the U.S. and Japan, but it only corrected the trade balance with the former.

The Plaza Accord led to the yen and Deutsche dramatically increasing in value relative to the dollar. The dollar depreciated by as much as 50 percent relative to the yen and Deutsche mark. It was signed in New York City on Sept. 22, 1985, and named after the hotel where it was signed—the Plaza Hotel.

The Plaza Accord was meant to push down the U.S. dollar, with the U.S., Japan, and Germany agreeing to implement certain measures to do so. For the U.S., it planned to reduce its federal deficit, Japan was to loosen monetary policy and Germany was to implement tax cuts.

Leading up to the Plaza Accord—from 1980 to 1985—the U.S. dollar appreciated by over 50% against the yen, Deutsche Mark, French Franc and British pound. The strong dollar put pressure on the U.S. manufacturing industry, causing many major companies like Caterpillar and IBM to lobby Congress to step in—hence, the Plaza Accord.

Following the Plaza Accord, the U.S., Japan, and Germany all agreed to intervene whenever necessary to help push down the dollar. Many of the countries didn’t meet their goals, but the overall goal of reducing the dollar worked. The dollar declined by over 50 percent relative to the yen and Deutsche mark before the end of 1987.

The Plaza Accord solidified Japan’s presence as a major player in the international market. Yet a rising yen can lead to recessionary pressures for Japan’s economy. The strong yen led to greater expansionary monetary policy, which contributed to the asset bubble of the late 1980s. As a result, through the 1990s and 2000s, Japan experienced a prolonged period of low growth and deflation.

Thus, the Plaza Accord helped propagate the “Lost Decade” in Japan. The accord failed to help reduce the U.S.-Japan trade deficit, although it did reduce the U.S. deficit with other countries. This comes as U.S. goods were now able to compete better in international markets, yet, Japanese import restrictions still made it hard for U.S. goods to succeed.

Here’s the chart. The Plaza Accord triggered a 30% spike in the AUD:

As commodity prices blew off in the great Japan bubble (which seems small today):

Any bilateral agreement between the US and China to sink the dollar today would run into other problems. The only way to execute it is for China to stop buying US Treasuries and shift its forex reserves to Europe. A rising EUR would crush that economy so it would be very unhappy. Mind you, it would be one way of forcing Germany to do fiscal spending.

If it also accompanied Chinese monetary easing for domestic stimulus then the capital flight pressure on China would worsen. It would probably also have to slam shut other dimensions of the capital account, and even trade account, with other nations to manage this. This would not bode at all well for students and tourists in Australia. It could promise fiscal as well.

In which case, there’d be some offset in commodity price gains for Australia assuming the Chinese stimulus were strong enough and the AUD would spike in a rerun of 2016/17 with one final leg of Chinese bubble blow-off before it collapsed its own Japanese style lost forever decade.

It’s clear that China is trying to keep any deal focused on the trade imbalance and away from the larger structural issues of trade and development cheating.

Either way, Australia is not going to benefit in the long run!

David Llewellyn-Smith

David Llewellyn-Smith is Chief Strategist at the MB Fund and MB Super. David is the founding publisher and editor of MacroBusiness and was the founding publisher and global economy editor of The Diplomat, the Asia Pacific’s leading geo-politics and economics portal.

He is also a former gold trader and economic commentator at The Sydney Morning Herald, The Age, the ABC and Business Spectator. He is the co-author of The Great Crash of 2008 with Ross Garnaut and was the editor of the second Garnaut Climate Change Review.

Latest posts by David Llewellyn-Smith (see all)

Comments are hidden for Membership Subscribers only.