Currency wars: the need for international solutions.

• Author: Esmel, Alexandra

1. Introduction

   In the context of globalisation, economic development has become a priority area of cooperation and, it goes without saying, that sovereign states must make the most of the international market for that purpose. The international market has created an interconnectedness of states' economies beyond borders, and that interconnectedness also takes into account their respective currencies. In the current "globalised market,'" it is a matter of common sense that after an international transaction must follow an international payment. That international payment cannot occur without taking exchange rates into account. The exchange rate determines the ratio at which a unit of the currency of one country can be exchanged for that of another country, and thereby, the value of the currency relative to another or to a certain value.

   In international monetary policy, there are three main types of exchange rates: a floated exchange rate, a fixed exchange rate, and a pegged exchange rate. (1) By the end of the Bretton Woods system of fixed exchange rates (currencies being pegged to the value to the gold), the floated exchange rate regime became the reference. (2) The floated exchange rate system, also known as the flexible exchange rate, is the system in which the value of the currency keeps fluctuating in accordance with the foreign exchange market led by the forces of supply and demand. (3) Nowadays, however, there is no such "perfect" floated exchange rate system. The main currencies of the world all apply a managed float, i.e., it is usual for states to intervene in the foreign exchange market to influence the value of their currency. (4) Governments can interfere with the exchange rate and maintain a currency value through the action of its central bank. (5) The rate at which the domestic currency can be exchanged determines the price of products abroad. Exchange rates are therefore of utmost importance in price competition.

   Accordingly, the determination of an exchange rate policy will set the strategy for the growth of the domestic economy. An exchange rate regime, whether fixed or floated, impacts the economy of the country in the following ways: "(a) price stability; (b) domestic financial stability and robustness; (c) external and internal balances; and (d) economic growth/|development." (6)

   Articles 1 and 2(1) of the Charter of Economic Rights and Duties of States 1974 states that "every State has the sovereign and inalienable right to choose its economic system ..." and "every State has and shall freely exercise full permanent sovereignty, including possession, use and disposal, over all its wealth, natural resources and economic activities." (7) One may naturally infer that such "full permanent sovereignty" includes the monetary sovereignty of that state.

   The International Monetary Fund ("IMF") defined monetary sovereignty of one country by the right to issue currency, that is, coins and banknotes that are legal tender within its territory; the right to determine and change the value of that currency; and the right to regulate the use of that currency or any other currency within its territory." (8) In this definition, the second right--the right to determine and change the value of that currency--reflects the role of the state in interfering with its currency value and that is the whole essence of currency valuations and exchange rates. (9) In a fixed or pegged exchange rate system, the government fully exercises that right to determine the value of its currency. (10) The question arises when a country acts upon the valuation of its currency (undervaluation or overvaluation relatively to other currencies) (11) to boost its economy to the detriment of other countries. That sovereign right is also exercised by countries when they intervene in the foreign exchange market.

   One the one hand, when a state exercises its monetary sovereignty and purposely undervalues its currency, it protects its domestic industries--especially those exporting--from foreign competition. It attracts foreign direct investment and influences the market prices of its goods and services. Due to the reduction of the production costs relatively to that of other countries, the exchange rate interferes with the market value the product. (12) Consequently, it might give a significant boost to its economic development. On the other hand, one must keep in mind the interconnectedness of the international market, as the undervaluation of one currency is the overvaluation of another, bringing along all of its economic detrimental effects.

   The raison d'etre of a state is to bring peace and security of life to the people under its realm. (13) Economic development has always been a priori, the legitimate goal of every state. That being said, can one criticize a country for pursuing an economic policy it considers best suited for the interest of its country, but damaging to that of another? What keeps a country from devaluing its currency for the sole purpose of gaining a competitive edge, whether because of an "imposed" overvalued currency or simply to improve its economy? Past currency wars were all triggered by domestic economic crisis, bad domestic policies, or weak domestic monetary reserves that ended up having an effect on other countries. (14) They all started within the realm of one state before having consequences for the global monetary system. (15)

   This paper focuses on the existence of solutions that International Economic Law is currently able to bring to this recurring problem. Its structure shall be twofold. The first section shall identify the problems of currency wars, i.e. monetary sovereignty and its influence on economic development. Evidence clearly suggests that an undervalued currency is beneficial to the economy of a state. This section will pinpoint the competitive aspect of currency values via a comparison of undervalued and overvalued currency, and their respective use of monetary sovereignty. The second section of this paper will put forward the claim that multilateral institutions must circumscribe the maneuvering of currency values, whether legally or politically.

2. CURRENCY VALUATION AND MONETARY SOVEREIGNTY

   International payments are only made possible thanks to the convertibility of one currency into another in application of the exchange rate. That exchange rate is the primary tool used by traders across the world to identify their real profits or losses when they buy or sell products on an international level with prices set in a different currency. (16) The balance of payment of a country registers the country's transactions with the rest of the world. (17) It is composed of the current account (international transactions) and the capital account (in and out financial flow of the state). (18) The capital and current accounts must balance each other, and when they do not, the state faces a trade deficit or trade surplus.

   In practice, a country will run a trade deficit if it imports more than it exports, or spends more than it earns. Similarly, a country will run a trade surplus if it exports more than it imports or earns more than it spends. Due to the fact that the international market is one single market, a country's trade deficit is always mirrored with another country's trade surplus. In the foreign exchange market, a currency value is "weak" or "strong", "overvalued" or "undervalued" only relatively to another currency.

   A product price on the international market (19) is influenced by relative currency values. From that follows that currency values are paramount in determining a country's export competitiveness. This competitive aspect of currency values is perfectly illustrated by the undervaluation of the Chinese Renminbi ("RMB"), the overvaluation of the African CFA Franc in the 1990's, and the use of their respective monetary sovereignty in that matter.

   1. China

      China has taken a progressive turn after the economic reform of 1978, from a typical socialist, centrally planned economy to a liberalised economy characterised by a significant export market. Since 2013, it is the world's second largest economy and the world's largest trading power, with a total international trade value of US $3.87 trillion. (20)

      Before the economic reform of 1978, China restricted foreign exchanges to a large extent. (21) The economic reform introduced a market exchange rate alongside a fixed exchange rate. It was only in 1994 that China abolished the dual system and officially established a managed floating exchange rate, which equated a peg to the U.S. dollar (the US dollar being subjected to a floating exchange rate). (22)

      In July 2005, China moved from a managed floating exchange rate to a gradual managed valuation, whereby the exchange rate is determined with reference to a basket of currencies. (23) China's Central Bank, the People's Bank of China, influences the exchange rate to adjust the position of the balance of payments and the level of international reserves. The RMB is adjusted vis-a-vis inflation differences with major trading partners: differences between inflation target, expected inflation in major trading partners, and so forth. (24) This control of the currency value was key to their success as, in 2008, it resulted in a RMB dollar value increase by roughly 20%, a bilateral monthly trade surplus of U.S. $17.5 billion with the United States, and accumulated foreign reserves of U.S. $1.9 trillion, equating almost 20% of the United States' public debt. (25) By gradually allowing an exchange rate flexibility, China succeeded in stimulating foreign exchange activities and adapted it to its own economical and institutional readiness.

      For many developing countries, pegging a currency to a certain value is very appealing, as it allows the control of the inflation rate and brings stability to the value of the currency. It is therefore no surprise to see that the U.S. dollar, the Euro, and...