Flight to Safe-Havens
Unlike stocks, all currencies cannot simultaneously decline.
However, some currencies did fare much better than others during the pandemic. The main
reason was that these currencies have a safe-haven appeal. The demand for such currencies
remained high due to the pandemic-induced uncertainty and a decline in investor risk
appetite. The three main safe-haven currencies are:
The Japanese yen: This has always been a leading safe-haven asset
mainly due to Japan’s status as the world’s largest creditor. This became even starker
during the coronavirus crisis, as countries took on massive government debt to inject funds
in a bid to revive their economy following months of lockdown.
The US dollar: This enjoys the status of the default safe-haven
currency, as it is the world's reserve currency. As various international trade,
cross-border business deals and financial assets are denominated in this currency, the US
dollar is the world’s most liquid currency. This supported the greenback during the covid-19
era.
The US dollar was also supported by businesses and traders exiting
emerging market currencies. In the first half of 2020, capital outflows from emerging
markets were larger and faster than during any previous crisis. As businesses and traders
converted these currencies, the demand for the US dollar rose to three-year highs in March.
The Swiss franc: This is considered a safe-haven currency as
Switzerland has a relatively stable economy and is seen as a neutral country that stays away
from global conflict. The currency steadily rose, even against the US dollar which competes
with the Swiss franc for hedging risks in investor portfolios.
Despite their safe-haven appeal, the major currencies came under
pressure as the pandemic progressed. This is because of government initiatives to support
their economies, including quantitative easing measures and interest rate cuts.
Interest rates
Most central banks lowered interest rates in an effort to encourage
businesses to borrow funds to tide them through the covid-19 crisis. Declining interest
rates are negative for the local currency. For instance, on March 11, the Bank of England
slashed its base interest rate to 0.25%. This led to a sharp decline in the GBP/USD.
Of course, the selloff was also caused by disappointing economic
data from the UK and Brexit uncertainties. On March 18, the GBP/USD crashed as low as
$1.1757, reaching its weakest level since 1985.