As the proxy war continues between US and Russia in Ukraine, it affects the world’s economy in different ways. A growing price of commodities negatively affects exporter nations such as Japan and China while it empowers commodity exporter nations like Russia and Saudi Arabia. But, why is that?
In a steady commodity market, those who manufacture and export goods can obtain the reserve currency and easily finance the new materials for factories due to a steady demand for their produced goods from other nations. When the price of the commodities rises, producer prices for goods rise and demand starts to weaken, reducing reserve currency inflows. For instance, in the last decade, BOJ has practiced Yield Curve Control on JGB. This was possible due to a significant US Dollar inflow into Japan, which is a major exporter. But now, MOF in Japan is unable to keep the exchange rate for USD/JPY below 120 due to a dollar shortage. This applies to China too as we see US bonds are sold in exchange for cash to finance the country, something that we might see in Japan soon. It is expected that US bond sales by China accelerate as the lockdown in major cities is put to an end.
In recent months, the Federal Reserve has decided to increase its interest rate, though we know the current rate is not enough to bring down the inflation, to tighten the monetary condition. If the West decides to continue supporting Ukraine, empowering its European allies, and keeping the peace in the middle east, it has to finance these goals through Bonds, either bought by other countries or financed through the Fed (or a higher tax rate if they were saner!).
In the current environment that the biggest US treasury bond buyer, Japan, needs cash to suppress the exchange rate, the Fed has to step in and monetize the US Gov. Thus, if the war and supply constraints continue, it is probable to see the Fed hiking rate while expanding its balance sheet, or a series of hikes and cuts in interest rate by the Fed.