Prepare Now for Capital Controls Coming to the U.S
By PETER KRAUTH, Money Morning When central banks start realizing they’re not actually in control, it’s time to get especially vigilant. As currency volatility gyrates like a sine wave, central planners are becoming increasingly desperate. We’ve already seen the advent of negative interest rates in a number of nations. Yet growing talk of possible capital controls is not only emerging, but gaining steam. It’s a disturbing trend that could blindside investors who stand unprepared. Capital Controls and Their Prevalence What are capital controls? According to Investopedia:
Any measure taken by a government, central bank or other regulatory body to limit the flow of foreign capital in and out of the domestic economy. This includes taxes, tariffs, outright legislation and volume restrictions, as well as market-based forces. Capital controls can affect many asset classes such as equities, bonds and foreign exchange trades.
Keep in mind that measures can also include restrictions on bank withdrawals, buying and selling of foreign currencies, and even taxes on bonds and equities. Okay. So now that we all know what they are and how draconian they sound, you’d think they’re pretty rare. Not so. Capital controls are actually pretty common. Right now, they’re being used in Argentina, Venezuela, Ukraine, Iceland (it’s been six years already), India, and China, to name a few. Even Russia recently instituted “soft capital controls,” by instructing a number of state-owned exporters to sell their foreign currency reserves to help support the ruble. But given the problems being faced by the European Union’s southern members, some of those could well be next to take such drastic measures. Confused Central Bank Policies Are Causing Wide Fallout Greece may have made a deal with its reluctant lenders, but it’s nothing more than an extension guaranteeing more negotiations within the next four months. That’s also spurred is massive capital flight out of this Mediterranean tourist haven. Greeks and Greek companies have headed for their banks’ exit doors in droves. In January alone, 12.2 billion euros flowed out, leaving total cash holdings at 148 billion euros, the lowest since August 2005. Moves like this conjure up thoughts of Cyprus, and for good reason. Cyprus, an EU member, decided to introduce capital controls back in March 2013. The island nation was in the throes of a bank run as the terms of a 10 billion euro bailout were being “negotiated.” All of this stemmed from Cypriot banks holding too much public and private Greek debt. A massive write-down of Greek debt in 2011 wiped out a large portion of the value of those bonds. As part of the country’s attempt to deal with its financial system’s meltdown, the central bank put capital controls in place nearly two years ago. And they’re still in effect today. With Cypriot euros stuck in the country, this makes them arguably worth less than a Dutch euro, for example, which benefits from a lack of restrictions. Central planners like to boast about a liberalized, global economy, but sadly the state of sovereign finances is such that capital controls are looking more likely, not less. In just the last few weeks, the Swiss National Bank’s Governor Thomas Jordan has broached the topic. A quick refresher is needed. He’s the same guy who, two days before removing the Swiss franc’s peg to the euro (causing currency volatility most traders cannot recall in their entire careers), had his vice chair Jean-Pierre Danthine affirm the currency cap would remain the cornerstone of SNB policy. Bloomberg recently asked Jordan if Switzerland would resort to capital controls, to which he carefully replied, “It’s not a measure that is at the forefront at the moment.” (Emphasis mine.) Shortly after which Zurcher Kantonalbank’s (Switzerland’s No. 4 bank) CEO Martin Scholl told a Zurich newspaper that implementing capital controls may be “dramatic,” but was “certainly possible.” Then on Feb. 20, the Danish Krone had its biggest intraday drop against the euro since 2001. Why? While commenting on the central bank’s currency peg to the euro, the head of Denmark’s Economic Council remarked “If it takes restrictions on free capital movement for a period to defend the fixed exchange rate, I assess that the central bank would be willing to go that far.” Could the U.S. be next? The Contagion Reaching Our Shores