The Return of the Currency Crash

CAMBRIDGE – Currency-market volatility has been around for decades, if not centuries. Wide gyrations in exchange rates became a staple of international financial markets after the Bretton Woods system broke down in the early 1970s, and mega-depreciations were commonplace later in the decade and through much of the 1980s, when inflation raged across much of the world. Even through much of the 1990s and early 2000s, 10-20% of countries worldwide experienced a large currency depreciation or crash in any given year.

And then, suddenly, calm prevailed. Excluding the mayhem associated with the global financial crisis of late 2008 and early 2009, currency crashes were few and far between from 2004 to 2014 (see figure). But recent developments suggest that the dearth of currency crashes during that decade may be remembered as the exception that proves the rule.

The near-disappearance of currency crashes in the 2004-2014 period largely reflect low and stable international interest rates and large capital flows to emerging markets, coupled with a commodity price boom and (mostly) healthy growth rates in countries that escaped the global financial crisis. In effect, many countries’ main concern during those years was avoiding sustained currency appreciation against the US dollar and the currencies of other trade partners.

That changed in 2014, when deteriorating global conditions revived the currency crash en masse. Since then, nearly half of the sample of 179 countries shown in the figure have experienced annual depreciations in excess of 15%. True, more flexible exchange-rate arrangements have mostly eliminated the drama of abandoning pre-announced pegged or semi-pegged exchange rates. But, thus far, there is little to suggest that the depreciations have had much of a salutary effect on economic growth, which for the most part has remained sluggish.