In 1997, a sudden devaluation of the Thai baht triggered the Asian economic crisis that enveloped Asia, Russia, Brazil, and nearly brought the global financial system to ruin with the collapse of Long Term Capital Management (LTCM). At the time Malaysia imposed controls to stem the outflow of its currency that, it was argued, would no doubt have led to a freeze up of internal capital flows. The resulting 'beggar thy neighbor' effects in ASEAN were largely ignored, in part because Malaysia's economy was tiny by comparison to the region. That little experiment, however, did not go unnoticed by central bankers and activist governments. Fast forward 13 years.
In 2010, governments in China, Japan, Asia and South America have in recent months increasingly turned to currency manipulation (there is no other way to characterize it) to cushion the effects of the global meltdown on exports, domestic spending and debt obligations. Such countries comprise a large share of the global economy. The race to beggar thy neighbor is likely to result in a massive cycle of revaluations that will leave even the healthier economies of the world locked in a state of stagnation.
The value of financial assets and contracts will be worth much less than when they were formed, drastically upending the careful risk/return analyses that went into their creation. Domestic spending is likely to slow significantly for exporting countries and kept artificially high in importing ones. The U.S., already saddled with debt spanning several generations, will see its dollar weaken significantly, which will put greater pressure on domestic prices, further slowing, even halting, its economic recovery.
The exchange rates of currencies reflect the relative productivity of the economies they represent. Artifically inflating or deflating the currency of a country distorts the 'pricing' mechanism of its value creating assets and that of consumption and production decisions. This is not a good thing.
The real lesson from 1997 is that the Thai government and Thai companies allowed themselves to be seduced by cheap hot money. Therefore, governments, companies and households should impose strict discipline on their fiscal affairs to avoid future crises. Unfortunately, in 2010 the lesson that appeared to have been learned is that governments can manipulate their way out of the consequences of drunken spending and poor fiscal management by pushing the problem to their neighbors. This dangerous game of musical chairs can only end in tragedy. Governments should stay out of the business of managing their currencies.