Odd Lots - Hyun Song Shin Explains Why This Dollar Shock Is So Unique

Episode Date: October 31, 2022

It's no secret that a strong US dollar causes the rest of the world pain, but the impact of this year's rally is shaping up to be a bit different than previous episodes of dollar strength. Hyun Song Shin is the Economic Adviser and Head of Research for the Bank for International Settlements, which has just published a bulletin outlining why this particular dollar cycle is so unique. Shin has also done a ton of previous academic research on this exact topic — examining what happens to global trade and business investment when the dollar hits its highs. In this conversation, we talk to him about the impact of the dollar rally, what could stop it and what policymakers around the world can do to cope.See omnystudio.com/listener for privacy information.

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I'm Tracy Allaway. And I'm Joe Wisenthal. Joe, have you looked at a chart of the dollar recently? It's the only chart I look at. Well, if you were going to choose one desert island chart right now, the dollar is a pretty good candidate. Yeah, that's why I'm only sort of half joking when I say it's the only chart that I look at because so many, you know, the strong dollar has become the sort of like central market story right now. And then everything else sort of like trades off of is the dollar weak or strong. I think we went a couple of days where we were like paying attention to the British pound,

but now that kind of seems to be over. No, it's really all about, it's all about the dollar. And it's coming off a little bit from its highs, but it's still very high. Yeah, I was going to say, you know, the last time we had an episode specifically devoted to the dollar, I think it was in the summer and we were kind of joking about top ticking it. Yeah, we didn't. We definitely didn't because it just kept going. And I think it reached, you know, a record high in September.

and now, as you mentioned, it's come down a little bit, but still incredibly strong. And it's having a massive impact on not only markets, but real economies around the world. Right. That really is the key thing. And, you know, it's a theme that we've talked about for years, even before the pandemic or, you know, even during periods when the dollar is kind of weak or much lower than it is, dollar cycles are really important, both for markets and the real economy. Yeah. And even though people write quite a bit about them, I feel like they see. still don't get enough attention paid to them weirdly. It's like one of those things that, I don't know, people talk a lot about them, but we should definitely talk even more.

And when people, or at least you and I, but when people think about these dollar cycles and the effect they have globally, I feel like there's always one name that comes up first. Yes. So on that note, we really do have the perfect guest to discuss this. Someone who's been on the podcast before talking about what the strong dollar means for the global economy, someone who's done a lot of academic research on this topic. And to this day, whenever you and I write about a strong dollar, we always make sure to reference his previous papers. So I'm very pleased to say we are going to be speaking with Huan Sung Shin. He is, of course, the economic advisor and head of research at the Bank for International Settlements. And the BIS has just published a bulletin all about the FX market,

with a big portion of it devoted to what's going on with the U.S. currency. So really the perfect person. Let's do it. All right, Hjohn, thank you so much for coming back on Othlocks. Thanks, Tracy. Thanks for inviting me back. So, you know, I mentioned in our intro, the chart of the dollar looks like, if you look at the Bloomberg dollar index, for instance, it seems to be at a record. Can you maybe give us some context about what we're seeing with the U.S. currency now? How unusual is this particular moment in history?

And, you know, Joe mentioned that there have been strong dollar cycles previously. How is this one similar or different? Yeah, Tracy, that's a great question to kick off with. You know, maybe I can go back in time a bit and give you the broad sweep here. I mean, if we look back to the past 50 years or so, maybe even the past 40 years, the era of floating exchange rates, the chart for the dollar looks a bit like a W. You know, we have a peak in the early 80s. In fact, it peaked in January of 1985.

And then it peaked again in the early 2000s. And I'll give you some numbers shortly. And it's very high currently. So just to give you some magnitude, I think it's worth having some of these numbers in our minds as we talk about this. The BIS publishes a long series on exchange rates. It's the BIS series on real effective exchange.

rate. So it's a weighted average across all the major bilateral exchange rates with respect to a particular currency. And then we adjust for inflation, relative inflation as well. If we go back 50 years and just look at the average of the real effective exchange rate for the dollar, the average is around, it's just over 110. And in 85, it reached 145, just over 145. That gives you a sense of how strong the dollar was back in 85. In 2002, it peaked around 24, and currently it's broken through 140. So we are sort of, you know, we're not quite there in terms of the 1985 level, but we're, you know, reasonably close. And to give you a sense of the of the troughs, there were periods of a weaker dollar as well. The first trough, you know, the first trough in the W, as it were, that comes in the early 90s,

It reached the low 90s, and then just after the global financial crisis, it again reached the low 90s then. So there happened some wiggles in the last five or six years, but I think it's useful to have this kind of broad historical sweep as well. There's that famous phrase, and I guess it was former Treasury, I just had to Google it, that former Treasury Secretary John Connolly stated, the dollar is our currency, but it's your problem. Our currency, your problem is this phrase that gets repeated a lot. And I feel like when I think about, well, how is it your problem? How is it everyone else's problem? Your work in particular, you know, I always think back to it. But just start broadly.

How would you summarize the strains that it places on the global economy when the dollar moves up this rapidly? What we can do, Joe, is to highlight some of the roles played by the dollar. I mean, it is the premier international currency. and it is the premier currency in pretty much all respects. So it is the invoicing currency of choice in international trade. It is therefore the trade financing currency as well quite naturally because if you're invoicing in a particular currency, then the trade financing will also be in that currency as well.

But more broadly, it is a currency that figures very highly in reserve holdings. but in particular in capital markets and cross-border banking as well. So it's the, if you like, the funding currency for global banking and capital markets. So what that means is that, you know, if it's a funding currency, it's the currency that you borrow in, and therefore it's the currency of leverage to some extent. And so when the dollar becomes strong, if you like, it's the leverage that become, you know, more costly. So it's quite natural for you to see the pullback in risk appetite, if you like a reduction in risk taking as well. So there's a strong risk-taking element, you know, as the dollar strengthens, where, you know, there's a kind of, you know, pullback from risk-taking.

And so a stronger dollar has an effect, certainly on trade, but also on financial conditions as well. I think that's the kind of one sentence, you know, summary. Yeah. When we spoke to John Turrick in the summer about this on the show, you know, he kind of described how the dollar works through an economic growth channel given the trade angle and also a liquidity one because the dollar has this unusual position in the global financial system where it's a safe haven currency. It's considered that. And so when you get worries about economic growth slowing, because of the higher dollar, you tend to get more flows into dollar assets and then the dollar goes up even more. So you get this kind of cycle, I guess. Here, maybe just one more basic

question, but why has the dollar been going up? Is it all about interest rate differentials and the fact that the Fed is hiking, or are there other factors to it? And, you know, I'm thinking specifically about, again, one of the dollars very specific or unique roles in the world of commodities pricing. I'm certainly the relative pace of monetary tightening has certainly played a role. And, you know, that's something that we describe in the bulletin. If you look at the relative interest rate differentials between the US and other countries, we do see a relationship there, where as the interest rate gap widens, we do see an impact on the bilateral exchange rate. So the other currency tends to depreciate more. So I think that's a pretty familiar story. And that is a large

part. But I think there is also a very important real economy effect here as well. If we look at the terms of trade, so roughly, you know, how much has the price of your exports changed, of the price of imports. A very recent development has been that the US has become a net energy exporter, especially in natural gas. So compared to past episodes when a stronger dollar went hand in hand with weaker commodity prices, there has been this additional effect that comes from the terms of trade as well. So the dollar has moved to some extent in line with other commodity exporters. So that's the other factor. And yet, a third factor would be what you've already mentioned, Tracy, which is that as uncertainties

increased, the dollar tends to attract the safe haven flows as well. So I think I would say all of those are to some extent the consequence of the unusual sequence of shocks we've had. So we had obviously the pandemic, but also the war in Ukraine and the subsequent impact of commodity prices as well. And you can certainly put the monetary policy responses also in this context. So I think we have to, as it were, have a pretty comprehensive, you know, a join-that picture of why we are, where we are. The news doesn't stop on the weekends. Context changes constantly. And now Bloomberg is the place to stay on top of it all. Hi, I'm David Gura. Join us every Saturday and Sunday for the new Bloomberg this weekend.

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Saturdays and Sundays starting at 7 a.m. Eastern. Make us part of your weekend routine on Bloomberg television, radio, and wherever you get your podcasts. I want to talk more about the commodity angle because that seems like what's really distinct and unusual here. And if you look at the chart of past dollar spikes that you talked about, those were the era in which the U.S. was a big oil importer and was not a commodity exporter at all. This is the new, we're a huge oil producer, as we know, and the whole world is thirsty for our natural gas. We're exporting as much as physically possible. How does that change things? And I'm also curious, does that create a spiral?

So I'm thinking about sort of like, you know, the Japanese yen, and for a long time, Japan was a big export powerhouse. Now it actually, I believe, is an importing country, particularly due to energy prices. We've seen how much the yen has weakened generally. does this create like sort of a snowball effect where the terms of trade for a country like Japan deteriorates the yen weekend and then energy prices get even more expensive and sort of accelerating the cycle? That is certainly one factor, Joe. And the terms of trade effect also show up in the trade figures as well, both for Japan and other commodity importing areas. And I'm thinking of Europe in particular. You know, we do see the impact of the energy and food, you know,

prices, price increases recently. But I think the important point here is the invoicing currency role of the dollar. The dollar is the invoicing currency for energy, food, as well as for manufacturing, by the way, but especially for energy and food. Because what that means is if you're in Japan or in the euro area, you've seen your currency depreciate against the dollar. And we know that commodity prices have increased even in dollar terms. And so in euro or yen terms, it's actually increased a lot more. And there's a chart in the bulletin that shows, you know, just roughly the magnitude. And what that means is the energy and food prices are then incorporated into your inflation figures. And I think the important point to mention here, and you've covered this in your

previous podcast, energy and food prices, they're really salient commodities as far as household behavior is concerned, household perceptions are concerned. And so they do figure quite important in how expectations are set and therefore, you know, how, you know, behavior changes as well. And so perhaps even more than other traded goods, if you see this very sharp increase in commodity prices, especially in your own currency, if you like, that would have a disproportionate effect on inflation, you know, domestically and the way that inflation is, you know, perceived. What's different this time is that typically, you know, historically, you know, historically we see commodity prices weakening as the dollar strengthens. I mean, there's a very, you know,

well-established relationship, historical relationship where a stronger dollar goes hand in hand with weaker commodity prices. What's different this time is that, you know, given the shocks, given the nature of the shocks, we have this conjunction of a stronger dollar and higher, you know, commodity prices due to the war in Ukraine, for example. And that combination, which is a very unusual one, has had an effect in raising the food and energy prices in other currencies, a lot more than it did in the past. Right. So normally you would have this inverse correlation between the dollar and commodities, especially oil. And if the dollar went up, you would expect oil prices to go down. But that's not happening this time around. Can you talk a little bit more about what that means for countries that are importing, you know, a lot of food and energy?

because I think it's pretty important. Yes, it is very important. And clearly, it is a negative shock to your terms of trade. And it raises the price of food. It raises the price of energy in your domestic currency. And so that will feed into inflation. So it's a bit of an unpleasant set of shocks there. We see, for example, that the economies that are very geared towards manufacturing

have seen a worsening of their trade balance, as the terms of trade have moved against them. And it's also true that as the exchange rates in these countries have also depreciated, you know, relative to the dollar, that's also been an unwelcome factor in raising inflation as well. Because of the very unusual sequence, very unusual combination of shocks, it has been a double whammy. Can you talk a little bit more about what it means from a policy perspective for countries that are faced with this unusual series of shocks? So there is high inflation, but much of it. in areas that they probably can't control, you know, the global commodities. What does it mean

in terms of policy space that different countries have? And, you know, we've all seen the yen charts, and it looks like maybe there has been some yen intervention at some point, but, you know, it's limited and it's sort of ambiguous. But what is it due to policymakers in countries that are faced with this series of shocks? Yeah, I think that's a very good question, Joe. And I suppose the first order of business is to address the inflation. That is underlying, if you like, it actually sets the terms of the trade-off for all these other policy questions. Even if the source of the inflation is these higher energy and food prices, we know from historical experience that once that gets entrenched, it will feed into expectations about, you know,

how inflation will develop in the future. It's going to get much more difficult to bring inflation down. And just to give you a sense of how that process has progressed, we know, and you've been covering this in your podcast a lot, in the early days of the shock, you know, just as we were talking about supply chains, it seemed that the price increases were limited to, you know, certain good sectors. Some of the work at the BIS, we also followed that pretty closely. But what we've seen is that there's been a broadening out of inflation over the subsequent months. We've seen the core inflation measure also move up quite a lot of, and this is globally we're talking about. And this is global. So this is a phenomenon that we're seeing in every country,

which is not just high inflation, not just headline inflation, but this broadening effect of across goods and services. Yeah, exactly. And we see it in core inflation, and this is true outside the US as well. So irrespective of the source of the shock, you know, once inflation gets entrenched, we know this is going to be very difficult to bring it down. So addressing inflation would be certainly, you know, the first order of business. But as you're doing that, I think there are other things one can do to mitigate some of the effects of a stronger dollar, especially if it affects your financial markets. So we know, as we spoke just earlier, one of the very well-established effects of a stronger dollar is that it tightens financial conditions.

It is the global funding currency. It's the currency that you borrow, and therefore it's the currency of leverage. So a stronger dollar tends to go hand in hand with de-leveraging, if you like, a recoiling from risk-taking. And that manifests itself in not only banking sector flows, bank lending, but also in capital markets. You see, for example, spreads on corporate bonds go up as the dollar strengthens. And there's a chart in the bulletin that I think illustrates that quite strikingly. And we also have very good evidence that it affects the shadow price of intermediary balance sheet, if you like. So, you know, when you speak to Zoltan Posa or Perry Merling, you know, they, I think, have a very similar sort of approach to this. there is a sort of marginal cost of balance sheet. We tend to observe, for example, through the deviation

from covered interest parity, the FX basis spread, for example, is that that spread goes up when the dollar is stronger, which is a kind of telltale sign that balance sheet is becoming more expensive. And so for all these reasons, if the tightening of financial conditions gets successive and, you know, it might sort of trigger episodes of, you know, stress. Then, of course, there are ways of, you know, mitigating that kind of stress. I think central banks have now the tools to do that. You can mitigate that partly by, you know, supplying liquidity in a very sort of strategic way. But also, FX intervention to, as well, lean against the wind, is another way to address partly this kind of, you know, the tightening of financial conditions as well. This is what I wanted to

ask you about, like, we used to worry about competitive devaluation in the year since 2008, but should we be worried about competitive, I guess, interventions now, people trying to strengthen their currency against the dollar and how sustainable are those types of moves? You know, I can see some parts of the argument for why a stronger dollar might lead to, you know, high interest rates and other jurisdictions, you know, higher than perhaps it could be, you know, in the absence of a stronger dollar. But I'm not sure that the argument sort of fully comes around to a conclusion that, you know, this leads to kind of competitive strengthening.

So one part that certainly does, you know, make some sense is the idea that, you know, as the dollar strengthens, it raises the local currency price of food and energy. And that certainly has an effect on domestic inflation for the reasons that we discussed. So that has to be met by a monetary policy. response domestically. So there would be a tightening there. But for a kind of feedback loop to be established, you need some kind of way of completing that circle. And I think that additional step, for us, it's not as clear. If anything, you would imagine that, you know, the Quartession goes the other way. So as the global economy weakens, you might, you know, see the Fed sort of moderating, you know,

if there is a demand spillover. But clearly, this is something that, you know, we need to keep an eye on. it's certainly a departure from the usual story about competitive devaluations, you know, currency wars in the traditional sense. But I think the effects are pretty multifaceted here. And if we just look at some of the more, you know, recent, you know, events in capital markets, I mean, you mentioned that the dollar has sort of slightly topped out now in the last few days. But more generally, if we look at the monetary policy responses around the world, I would say that, you know, there are sort of signs that this kind of reverse currency wars scenario probably isn't, you know, as strong as, you know, we might have thought. And so, yeah, so I would accept some parts of that, but probably

wouldn't embrace it wholly. So you mentioned, you know, you referenced our conversation recently with Salton and Perry. And that was about the future of the dollar. But I actually want to sort of look backwards for a second because, you know, as you talk about, as we've been discussing, the dollar is, the invoicing currency. It's the funding currency. It's the everything currency. It's the borrowing currency. When you look back either at sort of real activity or borrowing and hard currency for other countries, over the last few years, has there been any change to the trajectory of the importance of the dollar? Or has it been sort of just going from strength to strength in terms of its role in the world economy? Well, Joe, I think I can sort of give you some hard numbers here because as well as

the bulletin, we have just come out with the BIS Triennial Survey. So every three years, we do a pretty thorough stock take of what's going on in the FX market in particular, but also in the interest rate there of this market. But let's focus on the FX market. So we do a pretty, you know, detailed stock take. We gather data from all our part of central banks. We have a pretty good take. And we've just come out with the latest triennial survey. And the answer is not much has changed. If the role of the dollar has strengthened somewhat. So just to give you some broad numbers here, the headline number is that 88% of all FX transactions have the dollar on one side. So, you know, it's a pretty big number. And that was the same in our last Triennial survey back in 2019.

And the other currencies, I mean, they pretty much were trading water in that respect. The euro, 31%, the yen, 17%, the pound, sterling, 13%. So that's pretty much what they were last time round. The Remminbi has gone up. It went up from 4% in 2019 to 7% this year. So there's a sort of marginal tick up in the reminb, but on the scale of things. Yeah, still seems small.

You know, it's pretty small. And for those listeners who say, well, how come these numbers add up to more than 100? Well, remember, we are talking about a currency being on one side of a transaction. Right. So, you know, in theory, if you add it all up, it'll, you know, add up to 200%. You know, because... That's a useful footnote.

Yeah, that is a useful. This will help us with Twitter people. No, I realized that. Absolutely. It took me. I realized that halfway through, but at first I was like, wait a second, 88 plus 13 plus seven. And it took me, but then I got.

Absolutely. But that's useful for no. Yeah. And Joe, maybe, you know, just to finish the thought, so why might it be the case that, you know, there is this very, if you're like, resilient role for the dollar as the premier international currency? Well, if you think about how all the pieces fit together. And I think we talked about this in one of our previous conversations. All the pieces support the other pieces. So, you know, think about starting from invoicing. So if you invoice in the dollar, then it makes sense to finance trade financing, you know, in dollars. because you're going to be receiving dollar cash flows. And similarly, if you're going to make an investment and the cash flow is in dollars, then, of course, it makes sense to borrow in dollars because you want to eliminate at least one of the uncertainties

between your obligations and incoming cash. So you tend to borrow in dollars, even if you're not located in the United States. And if that's the case, then the capital markets will have a preponderance of dollar instruments. and which is, you know, exactly what we see. So the capital market development will very much follow in the wake of these currency decisions. You know, asset managers pretty much will have a preponderance of dollar securities,

you know, dollar assets more generally. And, you know, if you're a pension fund or a life insurance company from a non-dollar jurisdiction, you know, you're limited in your domestic currency instruments. And so in your portfolio, there's going to be a very large chunk of, you know, dollar-denominated assets. So if that's the case, then you have to find a way of hedging the currency risk, you know, because your obligations to your beneficiaries, your obligations to your policyholders are going to be in your domestic currency rather than in dollars. And so there's a role for dollar hedging.

There's a hedging for the dollar risk, which means that, you know, you would take up, you know, swaps with the global banks. And the global banks are, if you like, lending you dollars short term. And of course, they would need to source those dollars in global capital markets. And so the global banking system, the global capital markets, there's a very good reason why that's a very heavy dollar ecosystem because it builds on all these, you know, previous steps. And so as, you know, one layer is supported by the layer beneath, the whole thing sort of, you know, hangs together. It's going to be, you know, very difficult to see how that kind of arrangement

would change. Perhaps over the very, very long run, you know, we would see possibly some changes at the margin. But it's going to be something which has inherent, if you like, resilience because of this mutually reinforcing layer, the layers of the global financial system. I'm Francine Lacqua, an award-winning journalist, and I've got a new podcast, leaders with Francine Lacqua from Bloomberg Podcasts. I've interviewed everyone from Heads of State to fashion icons about the news of the moment. But I've always been curious, who are these people as leaders? I don't think there's one right way. to be a leader. Make decisions. A poor decision is always better than no decision. Listen to new episodes

every other Monday. Follow leaders with Francine Lacroix wherever you get your podcasts. You know, you mentioned the impact of a stronger dollar on global financial conditions historically, given its centrality in global trade. And I wanted to ask you, in the bulletin, there's a line that says, more generally, it's unclear whether the impacts of swings in the dollar. It's unclear whether the impacts of swings in the dollar exchange rate on global financial conditions is now stronger or weaker than in the past. Can you explain that a little more? Like what potentially has changed here? So what we were thinking of in that passage is that, you know, we have to distinguish between the aggregate impact given the size of the rise in the dollar index versus the point for point

impact. So, you know, as one point goes up in the broad dollar index, how does that affect financial conditions. So clearly, given the very large moves, we have seen quite substantial impact across the board. But what we had in mind in that paragraph was really about the point by point impact. And there, I think, we do see some interesting things this time round. So on the one hand, it's certainly the case that emerging markets are much more resilient or seems to be much more resilient this time round. And if anything, it's advanced economies that have really, really been perhaps more affected by tightening global financial conditions. So one way to think about the emerging market story here is, first of all, if we look at the changes in the bilateral

exchange rate, it is very telling, for example, that the Brazilian Real and the Mexican peso have actually appreciated relative to the dollar this year. And that's really quite a turn-up for the books. You know, when you typically think back to, you know, recent periods of dollar strength, in particular that period in the middle of the 2010, you know, 2014, 2015, 2016. That was an episode when a stronger dollar hit the emerging markets particularly hard. And also actually commodities. You know, that was a period when all reached very, very low levels. So the emerging markets are actually doing reasonably well this time round.

And we also see it in the spreads of domestic currency sovereign bonds issued by emerging markets. I mean, there's a chart in the bulletin that shows in quite a striking way that when you look at advanced economy corporate bonds or indeed the dollar denominated bonds of emerging markets, we have the usual story where a stronger dollar has gone hand in hand with higher bond spreads. But the one exception is the local currency emerging market sovereign bonds. I mean, there the spread has actually come in. And so that's another sense in which emerging markets have actually done pretty well. And I think part of this story is the fact that emerging markets started to tighten earlier. You know, they anticipated what was coming down the road. You know, Brazil started to tighten quite early last year and, you know, quite far as well.

Same with Mexico, although to a lesser extent. And emerging markets have actually, you know, learned a lesson. And I think one of the good stories to come out of this current episode is that emerging markets have been a bright spot relative to, you know, all the other difficulties that the global economy is facing. Just looking at the in the bulletin and I'm looking at the third chart in particular, the changes in terms of trade since January 22. And, I mean, part of the story is just that the euro area and Japan are extremely dependent on foreign sources. of energy, particularly gas. And of course, we all know the story with the pipelines and to Europe and Japan's lack of domestic energy production. How much when we look at that other chart showing in particular the extremely strong performance of the Brazilian rail, is it a sort of simple terms of trade story?

I think the terms of trade definitely have a role to play. But it's also, I think, the monetary policy story as well. So, you know, I should certainly have mentioned the terms of trade effect for Brazil as well. I mean, there's a scatter chart in the bulletin that shows that, you know, those, you know, those countries that tighten more relative to the U.S. You know, those are the ones that have actually, you know, maintained their currency values. There are lots of other effects going on. So this is by no means a clean relationship. But yeah, I see, like, Canada is relatively better and also one of the sort of the, you know, of the sort of dirtier shirts, one of the countries that it looks like it's tightened more than some of the others.

Yeah. And of course, Canada is a very large oil produced as well. That too. So this is the big question. And I feel like I've asked it a couple of times this year. But is there a point at which a strong dollar becomes problematic for the U.S. economy itself, despite, you know, the uniqueness of the role of the U.S. currency in the global financial system and despite the energy independence, which Joe was just talking about?

That's a great question, Tracy. you know, there definitely are consequences. I think the issue is how much of the impact of the dollar globally will then spill back to the US. And here I think the demand channel certainly will be one. If you have a weaker global economy, that's certainly not good news for the US economy either. And this is why actually the reverse currency war stories,

you know, needs to be, you know, somewhat modified because for that sort of feedback loop to hold, there has to be something that, completes the circle. And it's perhaps not as obvious as it could be there. Now, in spite of everything, though, I mean, I would just go back to what I was saying earlier on some of the policy implications. I think the first order of business has to be inflation. Because from that, we know that once inflation gets entrenched, you know, that will be much more difficult to dislodge. But it does mean that, you know, as we tackle inflation globally, there are some of these

collateral effects that will definitely, in a way on us, as demand slows, as in particular in those countries with very high debt levels, in particular, very high household debt levels, as rates go up, you know, that will actually have pretty, you know, rapidly, you know, cooling effect on demand as well. And also perhaps financial stability issues that are coming up. So if you think about those kinds of, if you like, financial stability challenges, financial stability, if like trip wires, it might be lurking. I think we just have to be much more vigilant about seeing where the fault lines might be lurking and address them in a way that the policy framework as a whole is going to give us something fairly coherent. So, you know, it would not be

a good idea if you're tightening with one hand, but then loosening with the other. If you're going to be, you know, intervening in markets, it had better be, you know, fairly well-focused with a very, tightly defined rationale for why you're doing it. I think it's especially important in the current period because as we discussed earlier, the risk-taking channel means that the global funding currency role of the dollar means that there are constraints that are, you know, kicking in earlier. And, you know, they may interact in very complex ways. And so there are tripwires strewn all over the place that we need to be tiptoeing around very carefully as well. well. So even as we're addressing inflation, you know, that's job number one. We have to keep a

very close eye on what else might go wrong. I suppose, you know, we now have a lot of experience after the GFC on how to address, you know, specific market stresses. And I think it is fair to say these are primarily about capital markets and non-bank financial intermediaries rather than the banking sector. We can be happy that at least the banking sector looks a lot stronger than before the GFC. But still, the capital markets and non-bank financial intermediaries, these NBFIs in the jargon, they have channels of transmission that we're not always familiar with. I think the recent experience in the UK is a very good example of that. So while we are actually addressing the inflation and conducting monetary policy in the best way,

And that's, you know, taking into account the spillbacks as well as the spillovers. We have to be extremely vigilant on what else is going on because there are tripwires, you know, strewn on the floor, as it were. And they are those types of things that can be easily missed. They have to be vigilant. I have one more question, which is, what could actually break the dollar doom loop that we've sort of been describing? Because, you know, in normal times, I think one of the accepted ways that dollar strength would kind of peter out would be the rest of the world starts exporting more goods to the U.S. to take advantage of, you know, the stronger currency. And eventually that kind of hits U.S. domestic growth and that would cause the dollar to weaken. But as you well know, we aren't in normal times. And, you know, Europe is disrupted by energy shortages and China is still disrupted by COVID lockdowns. and things like that. So there seems to be a big question mark over whether or not the normal economic patterns would apply. Well, Tracy, I think even in normal times, a story that a depreciation

would actually stimulate exports and therefore that's going to be pulling the economy to stronger activity. I think even in normal times, that mechanism wasn't quite right. We know that the influence of dollar invoicing also extends to the impact on trade balances as well. If your price is sticky in dollar terms. Your export prices don't adjust very much, but the dollar invoice goods domestically will rise in domestic currency terms. And so that has an immediate effect on consumption. So typically what we see is that a stronger dollar goes hand in hand with both weaker exports and the weaker imports. Weaker imports much more strongly felt. And in addition, there are these financial channels that operate. What would break the current episode? Well, I think, you know,

if we can get inflation under control and if we can see inflation, you know, visibly coming under control, we see a path back to target. That's going to undoubtedly influence the thinking behind monetary policy actions around the world. And for the reasons that we discussed, you know, the monetary policy actions in one country will definitely affect those in other countries. And to the extent that the exchange rates will also move as the path of monetary policy, you know, adjusts way into the future. That's going to affect exchange rates in particular, but asset prices more generally. I'm less pessimistic than some other commentators that, you know, you've had on your podcast in that, you know, once we get inflation under control,

you know, that's the key, if you like. So if you think that we've been in some kind of, you know, vicious spiral, getting inflation under control will allow us to convert that vicious spiral into a virtuous spiral. And, you know, this could happen much more quickly than, you know, many of us, you know, could imagine. So, you know, as you know, Joe, I mean, things move very, very quickly in financial markets. And so I think, you know, once we see that, once we see the light at the end of the tunnel, that's going to change the general complexion of the discussion, I would say.

I like that optimistic end. Yeah. There's a chance that maybe it's a... Or the headwind turns into a tailwind, right? All right. Well, Hyn, we could easily talk to you, you know, for another. hour on this. But thank you so much for coming back on the show. And, you know, if you're a listener who is interested in this, please check out the bulletin from the BIS and some of HUN's previous

academic work as well. Thanks, Tracy. Thanks, Joe. Yeah, thank you so much. Always. Always fun. Great conversation. Yeah, it was great. Thanks, Jen. Really appreciate it. So, Joe, I thought it was great to get that kind of historical and nuanced perspective on this issue, because it is true with currencies, it tends to bring out a lot of emotions and strong opinions on either side, I would say. There's so much good. I mean, first of all, it is interesting and novel, this idea of a dollar upcycle and a commodity upcycle at the same time. So to start, like, that's just a really interesting phenomenon that's going on that makes this moment different than the other. I also, obviously, I liked when Huen sort of talked about, I guess, maybe you'd call it,

the interlocking puzzle pieces or the layers of dollar dominant. Yeah. You start with invoicing. That leads to hedging. That leads to, you know, you invest in dollars. You need to, you know, borrow in dollars, you know, to avoid FX risk. And then that leads into the question of, well, if there are different components of dollar positioning, you get in the situation in which the financial tripwires break before the real economy cools down.

Yeah. I thought that was a really important point. And also, you know, we kind of touched on this with. John Turrick as well, but the idea that when we talk about something breaking in the market, you know, the idea of the Fed hiking until something breaks has become something of a trope or a meme at the moment. But it's really like something that would cause something in the U.S. to break. Because to some extent we've already seen things internationally start to break down, like, for instance, the B.O.J having to intervene in the yen and things like that, the Bank of

England and the situation in the UK. So the thing that we're kind of looking for is, the tripwire that ends up impacting the U.S. directly? You know, I also think just, and again, listeners should go check out the new BIS bulletin out today, but this idea of like, oh, it's unusual that it's the EM countries, the EM currencies, and not just the currencies, because I kind of knew that on the currency front, but the spreads on domestic bonds also being staying pretty tame and not blowing out the same way that we're seeing in, say, the UK or Germany and elsewhere, I think that's also an interesting phenomenon. And of course, there are multiple drivers of that, both the terms of trade and the fact that many of these countries actually got a jumpstart on the hiking.

So very interesting dimensions to this dollar rally. Absolutely. All right. On that note, shall we leave it there? Let's leave it there. This has been another episode of the Odd Thoughts podcast. I'm Tracy Alloway. You can follow me on Twitter at Tracy Alloway.

And I'm Joe Wisenthal. You can follow me on Twitter at the stalwart. Please follow our guest, Hjong Shinh Song Shin. He's at Hjong Shinhong Shinn. follow our producers, Carmen Rodriguez at Carmen Armin and Dash O'Bennett at DashBot. And check out all of our podcasts at Bloomberg under the handle at Podcasts. And be sure to check out the Bloomberg Oddlods newsletter. Go to Bloomberg.com slash Oddlods.

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