BRUSSELS - The Group of Seven leading industrial nations sought Tuesday to defuse escalating fears of an impending "currency war", warning that volatile movements in exchange rates could adversely hit the global economy.
There have been increasing concerns around the world that governments are manipulating their exchange rates through their domestic economic policies in order to get an edge over others. A lower currency can make a country's exports cheaper, thereby boosting growth.
In a statement published Tuesday on the Bank of England website, the G7 finance ministers and central bankers insisted they remained committed to exchange rates driven by the market — not government policy — and would consult closely when it comes to sharp movements in foreign currency markets.
"We are agreed that excessive volatility and disorderly movements in exchange rates can have adverse implications for economic and financial stability," said the G7, comprised of the U.S., Japan and Germany, Canada, France, Italy and current president, the U.K.
The statement comes ahead of a meeting in Moscow at the weekend of finance ministers from the world's top 20 industrial and developing countries. In light of the recent swings in the foreign exchange markets, notably relating to the Japanese yen, currency issues were expected to feature heavily during the Group of 20 discussions in the Russian capital.
Much of the recent volatility in foreign exchange markets has been a by-product of developments affecting the Japanese yen, which dropped Tuesday to its lowest level against the dollar since May 2010. Though the Japanese government has not directly intervened to get the value of the yen down, it has set in motion a series of economic policies, such as a higher 2 per cent target for Japanese inflation that many in the markets think will lead to more money being created in Japan.
Though Japan insists it's not targeting any particular exchange rate, there are fears that the benefits the country will potentially enjoy from the lower yen may force others to start using their currencies as an economic weapon.
That's where the problems really start and conjures up images of the 1930 when countries pursued tit-for-tat devaluations in order to get an edge. However, the outcome was to decimate global trade, accentuate the depression and sow the seeds for World War II.
Kiran Kowshik, a foreign exchange strategist at BNP Paribas, said the statement is unlikely to stop concerns about the recent developments in currency markets from being aired, and that the G-7 effectively gave traders the "green light" to carry on selling the yen.
In the immediate aftermath, the yen was indeed sold off but it then rallied strongly on suggestions in the markets that the statement had been misinterpreted.
The euro was up 0.2 per cent at $1.3420 while the dollar lost early gains against the Japanese yen to trade 0.4 per cent lower at 93.85 yen.
The yen has been extremely volatile over the day — the dollar earlier hit a 21-month high of 94.40 yen, before falling sharply to 93.28 yen.
Olli Rehn, the European Commission's top monetary affairs official, said it a stable currency system was in everyone's best interest.
"Excess volatility and disorderly movements in exchange rates can have adverse implications for economic and financial stability," said Rehn at the conclusion of meeting of the EU's 27 finance ministers in Brussels. "And that's why we need to lean on active international policy co-ordination in order to prevent a wave of competitive devaluations."
The G-7 did not voice any direct concerns over the new Japanese economic approach, which the government hopes will get the world's number 3 economy growing again following two decades of stagnation and deflation. After all, Japan was a signatory of the statement.
"We reaffirm that our fiscal and monetary policies have been and will remain oriented towards meeting our respective domestic objectives using domestic instruments, and that we will not target exchange rates," the G-7 said.
BNP Paribas' Kowshik said the G-7 has "historically tended to back Japan in its policies" and that the statement laid the ground for what could be a "tense affair" in Moscow.
"There are a number of other countries like China, Russia, South Korea, etc who have an increasing importance in the G-20 and are probably not too happy with some of the recent Japanese rhetoric," Kowshik said.
Don Melvin in Brussels contributed to this story.