part0037

In the first section of this book we considered many of the key relationships and secondary market linkages that reveal so much about sentiment, risk and money flow. And in the first few chapters I laid down the basis of the first strand to analysing market behaviour using relational techniques.

This was the first element of my three pillars to trading success based on using relational, fundamental and technical approaches which combine to form a powerful three dimensional view of the financial markets.

The second pillar I now want to examine, and present are the fundamentals of market economics, which provide the foundation of Central Bank and government policies. In addition in this chapter I also want to introduce the world’s four powerhouse trading blocks.

These are China, the USA, Japan and finally Europe. In doing so this will provide the foundation to move on to the specific fundamental releases and consider each of these in turn and how they impact the markets. In the following chapters we are going to consider the global picture, the big picture if you like at the macro level, before moving to the micro level of country specific fundamental news releases and how they affect the currency markets.

I am going to start with China and the reason is simply that in the next decade, China is forecast to overtake the US as the world’s largest economy. Therefore, as forex traders, we have to understand China, not least because the Chinese economy will slowly and surely begin to dictate world economic cycles, in much the same way as the US economy has done for much of the last century.

Furthermore, as China's growth continues, its economic impact will also increase. We do not have to look far for evidence of this already taking place. Five years ago you would have been hard put to find Chinese data in any economic calendar. Today every economic release is reported in detail. And the reason is because Chinese data now has the ability to move markets dramatically.

Some years ago it would have been solely the US. Now it is also China. A poor number from China can rock the markets, due to the impact this data has on world demand. No market escapes, and no country has more power at present to move every market with one economic release. This is the power of China at present. A feature for many years to come, and likely to be replicated in the emerging nations in due course.

When considering China it can be difficult to know where to start as the statistics are on a truly gargantuan scale. However, there is really only one thing you need to understand about this extraordinary country, which is that it operates its own brand of capitalism, often referred to as state run capitalism. This is the ultimate paradox of a communist country grappling with the apparent transition from that of a closed State run economy to one of a consumer orientated Western economy with all the problems this entails.

I use the word 'apparent' deliberately, since China is, and always will be, a communist country at its core for the simple reason it has no democracy, as power is transferred from one dynasty to another in a preordained way, laid down years in advance.

The latest group to gain control in 2012 are the so called Princelings, the children of communist revolutionaries who are now in line to to take over from the current leadership. While writing this book this has occurred with Xi Jinping installed as President for the next 10 years. However, his appointment was decided more than five years ago and merely consecrated by the country’s ceremonial legislature. He was the only candidate for the role of President garnering 2952 votes of support from the National People’s Congress. Although apparently there was one vote against him and three abstentions.

In addition to being President, Xi Jingping has also been appointed General Secretary of the Communist Party and Chairman of the Central Military Commission.

The question now is whether this regime change will see China return to greater state controls on the back of nostalgia for the Mao era. Or whether China continues with its capitalist model with a gradual move towards greater monetary liberalisation. Only time will tell.

The dramatic growth in China over the last few years has been fuelled for one reason, and one reason only. To ensure the political elite running the country keep the vast population employed, happy, and above all, under the illusion they are, to all intents and purposes, a Western economy.

At present, China’s economy is approximately one third that of the US, but the gap is closing quickly, as its share of the global economy is expected to grow from 14 to 18 percent in the next five years, whilst the US share is expected to fall to 17.7%.

But the Chinese authorities are gambling, and in gambling they are likely to create exactly the same problems that saw the Japanese economy disintegrate in the early 1990’s, and more recently, the virtual collapse of the world banking system in 2008 and onwards. And the catalyst for a repeat of these problems is cheap money. Precisely the same catalyst which caused so many problems for Japan and has been responsible for the current crisis.

In creating the feel good factor for the Chinese people, the Communist State has also created two further major problems which need to be resolved. And quickly if we are not to see yet another global crisis which would trigger a further deep recession.

The first problem is the credit bubble which has now been created, with cheap money. This has fuelled a housing boom as the population moves en masse from the country into ever expanding cities. To give you an idea of the scale, it is thought that over 500 hundred million people will migrate, leaving their once traditional farming communities to join the growing throng of city workers producing cheap goods for overseas markets.

However, with inflation now rising, and rising fast, cheap credit will cease and rising prices will start to bite deep into an economic bubble created on this mountain of debt. A mountain of debt which, it has to be said, has been gratefully embraced by the Chinese people, as the brave new face of a Western economy.

The second and, perhaps even bigger problem, is that of the economy itself, which is now so heavily dependent on exports.

The Chinese export market has been built on the simple concept of a cheap, plentiful and almost endless supply of workers.

To convert the Chinese economy from one based on manufacturing and export led, to a more balanced one based on increasing demand from the Chinese themselves is unlikely, if not impossible in the short or even medium term and the reasons are as follows.

Increases in labour costs will make Chinese goods uncompetitive in overseas markets and, in addition, as Japan knows all too well, when the home currency strengthens goods and services become more expensive for overseas buyers.

In other words, the Chinese authorities are now wrestling with the problem of attempting to rebalance the economy by giving economic power to a wider consumer class. The Central Government is targeting an increase in minimum wages of 13 percent per year until 2015 as well as increasing per capita household income by seven per cent per year in real terms.

Before the recent transfer of power ex-Premier Wen Jiabao had also pledged to improve social security and health care for lower income households, all in an effort to give the country’s 1.3bn people greater spending power.

This is the goal. But no one has any idea of how it will be achieved, and this essentially highlights the dilemma for the Chinese authorities as they continue to cling to their core principles of communism, whilst attempting to embrace the new order of a Western economy.

Indeed the next few years could see dramatic repercussions in world markets, should the Chinese leaders fail to manage their economy correctly. But what does this mean for us as forex traders?

As I mentioned at the start of this chapter, it means China will dominate world economic events over the next few years in several key areas.

First, we have the yuan US dollar currency peg, which we have already examined in an earlier chapter, and is now being managed by the Chinese.

Second, is the continuing and ever increasing demand for base commodities, which is likely to drive future prices provided China’s economic growth continues, with Australia one of the key trading partners likely to benefit the most from this demand. And the corollary is Australia is also likely to suffer the most in any slowdown. One reason why the Australian dollar is so closely linked to the Chinese bubble.

Third, we have the traditional loathing of the US by China which has fuelled the development of the BRICS, with China leading the way in establishing a series of closed trading relationship with these partners. China’s goal? To conduct international business in the Chinese currency of the yuan, rather than the US dollar.

Finally, we have the issue of US Treasury debt, with the Chinese now holding in excess of $1.2 trillion in US treasuries, and with the FED continuing to print money at an alarming rate, China is rightly concerned over the value of this paper.

But how does all this play out on the global stage, and what do we need to consider when watching the latest fundamental news release for China? Also what do we need to consider during the latest round of talks between the US and China over unfair trade practices?

First and foremost to watch the monthly and quarterly releases of figures for the Trade Surplus, Consumer Price Index and Gross Domestic Product, (all of which will be explained in the section on the fundamentals ) for the simple reason inflation in China is now rising, and rising fast.

If the Chinese economy crash lands, as some experts are predicting, we can forget any economic recovery in the short term, with the world being plunged into a deep double dip recession. This is the power of China and Chinese data which you simply cannot ignore or any of the major economic releases from China given their huge influence.

In 2010, China’s inflation was already running at 5.5 percent, well ahead of virtually every other economy, with the Peoples Bank of China duly forced to raise interest rates on four successive occasions. Thus far this has failed to halt its upwards rise, and the economy is now beginning to overheat with money flowing into the country faster than it's flowing out, with the whole economy fuelled further by cheap credit.

The only way this credit flow will slow down is if the authorities are able to turn the ship around and rebalance the economy with imports and exports broadly matched, which seems highly unlikely at present. This can only be achieved if the Chinese achieve their goal of becoming an innovative technology led economy.

Currencies, of course, play a key role in achieving this goal. With the Chinese increasingly worried about the US policy of printing further US dollars, thereby potentially devaluing China’s huge holding of US treasuries, a fact it makes perfectly clear in all its statements on US policy.

The US, for its part, makes it perfectly clear in its replies that the Chinese authorities are deliberately maintaining a weak currency in order to support their exports. No surprise, and a similar policy to virtually every other economy around the world at present. This is seen as undermining US jobs, and this aspect alone has the potential to develop into a dramatic and damaging trade war between the world’s two largest economies.

The main economic goal for the US has not changed for the last few years, as the US continues in its attempts to force China to move faster in allowing the Chinese yuan to rise in value against the US dollar. This would make Chinese products more expensive in the US and in turn make US exports cheaper in China. It would also help to narrow the US trade deficit with China. The largest the US has with any country.

The ongoing currency issues between China and the US will continue to dominate for years to come, if and until the Chinese loosen their US dollar peg, or ultimately allow a free floating currency, which is unlikely at present.

Moving away from currencies, commodities will also play a pivotal role in the next decade, and any commodity trade war is also likely to emanate from China. This has already begun with rare earth metals, of which China controls around 95% of the world’s supply. Although rare earth metals are in fact quite abundant, China is the only place that currently has the capability to produce them in large quantities. These are the metals you would not recognise immediately, yet they are crucial in the future development of many technology and green products such as high power batteries for cars, solar panels and alternative energies.

In a deliberate attempt to manipulate prices China reduced its rare earth export quota by 75% in 2010, which sent prices soaring and sparking a war of words between China and Japan as a result. China followed up this action with an export tariff which added between fifteen and twenty five percent to the already inflated prices.

Whilst China controls its own commodities closely, it is also a major importer from Australia, its fifth largest trading partner. China imports over forty percent of Australia’s iron ore as well as being a major importer of coal.

This key relationship is one we will cover in detail when we look at the Australian dollar in the next section of the book and the effect China has on this particular currency.

If we had to sum up China in one word, that word would be, control, which takes us back to where we started, with the Communist authorities desperate to control their people, their economy, their currency and their supply of raw materials.

It is almost inevitable that, at some point, one of these factors will trigger a breakdown in control, with a consequent tsunami in the currency markets as a result. The bottom line is China is big and getting bigger every year, and its growth can no longer be ignored, especially given its long term investment potential if, and it’s a big if, it is able to avoid an economic trauma in the next five years. If it does, ultimately it will overtake the US as the worlds largest economy.

In the short term, not only do we have to understand the importance of the country, but also the underlying psyche of the Chinese authorities, as they wrestle with their communist roots in an increasingly Westernised economy. And, ironically this could be their ultimate downfall.

I hope in this short introduction to China, I have given you a thumbnail of this fascinating and increasingly important country. Make no mistake, the fundamental news and economic picture of China will dominate the currency markets for years to come, and to make sense of the market reactions to any news you have to understand a little of its background and history, which I've covered here.

If China is Emperor Elect, the USA still sits on the throne. And to understand the US dollar it's not only essential but also fundamental you understand a little of the US economy and how it works. This will give you a complete understanding of the currency of first reserve. Unless and until it is replaced by the Chinese yuan or even the euro.

To understand the US economy, you also have to understand the role of the Federal Reserve which is the central bank of the USA, and though many speak and write about the US economy, few understand how the FED really works.

In this short introduction, I'm going to try, once again, to give you a thumbnail sketch of the worlds largest economy. And here I would like to begin with the Federal Reserve which many people mistakenly believe is part of the US government. In fact, it is not and never has been.

The Federal Reserve is an independent bank created as a private corporation. It is in effect a cartel of private banks of which the Bank of New York is the most powerful and influential.

If this comes as a surprise, it certainly is to most forex traders. But let's just think about the logic of this. The US economy, which is the world’s largest, is effectively controlled by one private organisation owned by a handful of the worlds largest banks. This is why in 1916, three years after its inception, the then President of the United States, Woodrow Wilson, denounced the Federal Reserve in the following terms:

'I am a most unhappy man' , he said.

'I have unwittingly ruined my country. A great industrial nation is controlled by its system of credit. Our system of credit is concentrated. The growth of the nation therefore, and all our activities are in the hands of a few men. We have come to be one of the worst ruled one of the most completely controlled and dominated governments in the civilised world.

No longer a government by free opinion, no longer a government by conviction and the vote of the majority, but a government by the opinion and duress of a small group of dominant men'.

Remember, this is the President of the United States writing at the time following the creation of the Federal Reserve. In effect an institutionalised monopoly of the US dollar, which was created in 1913 by the United States Government. With the creation of the Federal Reserve the Government gave up its right to coin money, and so regulate its value. Instead it passed this right to a private corporation owned by the Federal Reserve.

This single move resulted in the massive accumulation of wealth by a small number of people, companies and corporations whose combined power gave them almost total control over both the US and world economy. And this has continued to the present day.

The Federal Reserve controls the US economy by virtue of the rights bestowed upon it in 1913. And with its immense power, controls the lives of every American citizen living and working in the United States. Therefore, the largest economy in the world is, in fact, run by the Federal Reserve Bank of New York, the most powerful and profitable bank in the world.

You may be wondering how on earth the largest economy in the world is now run by a group of private banks operating as a cartel. The answer is simple, but we have to step back to the turn of the nineteenth century to find the answer.

At the time, pressure was building for a US central bank to provide some stability to an increasingly unstable US dollar. The President, Theodore Roosevelt was also petitioned and the leading banks of the day decided to support this idea, but they had a separate and clear private agenda.

This agenda was to ensure any central bank would be run by the private banks. It was therefore no surprise when the commission was set up to consider the options, the chairman was none other than senator Nelson Aldrich, a high profile banker whose daughter was married to John D Rockefeller Jr. His grandson became Governor of New York and Gerald Ford’s Vice President.

His great grandson John Davidson Rockefeller IV, became Senator of West Virginia in 1985.

When the commission duly reported, it decided to name the central bank the 'Federal Reserve ' in part to hide its real identity, but also because the term ‘central bank’ was not a popular one. This arrangement was given an air of respectability by placing it under the supposed control of a board appointed by the US President, who was also responsible for appointing the chairman for a fourteen year term. A policy that has remained in place to this day.

The Board of Governors of the Federal Reserve is a seven member group. Each of the governors is appointed by the President and the appointment has to be confirmed by the Senate. Once appointed each member serves a fourteen year term. The banks which make up the Federal Reserve are divided across the US into twelve ‘districts’, each of which has its own Federal Reserve Bank which is responsible for overseeing member banks in its district.

Finally we come to the FOMC or Federal Open Market Committee, a euphemism if ever there was one, which is the group responsible for determining the Fed Funds rate and interest rate decisions.

This group consists of twelve members. Seven are from the Board of Governors, four are rotated from the district Federal Banks, and one is a permanent position. No prizes for guessing who holds the permanent position. This position is always held by the President of the Federal Reserve Bank of New York.

This is the composition of the most powerful financial cartel in the world. It meets eight times a year to decide the fate of the US, and by default the global economy.

To date the FED's most notorious contribution to world economic history came during the Wall Street crash and the Great Depression of the nineteen twenties and early nineteen thirties. The events leading up to the Great Depression have many parallels to the ones of the last few years. And could also be likened to China’s current dilemma with cheap credit creating a debt bubble.

This was essentially the root cause of the Wall Street crash, with cheap money flowing into equity markets. When the inevitable bubble finally imploded it resulted in the Great Depression.

The response from the Federal Reserve was to do nothing. It simply sat back and watched.

The greed which had fuelled the debt bubble was ultimately paid for by the borrowers. It was they who bore the brunt. Banks which had been eager to lend simply foreclosed picking up property and assets at bargain prices.

You might ask why I have included this background in this book, and you may also think I am anti the banks. I am not. The reason for explaining this is, first to make you aware the FED is not what you think. Second, I am not suggesting the Federal banks manipulate the economy to meet their own ends, this would be too obvious, but any organisation set up in this way can only have one ultimate aim. And that is its own, and its members’ self interest.

This knowledge will also make you realise most of what is presented in the financial press and elsewhere is largely rubbish. The press has little understanding or interest in history, and little time to present anything other than headline numbers – a headline for a headline sake, before it moves on to the next topic.

In many ways, this is akin to how the market makers operate in the equity markets, as they push and pull the market around according to the news flow which allows them to further cement their direct influence over the market.

As you read this book I want you to understand the motivation of the key players, of which the Federal Reserve is the biggest. If you understand their agenda, at least you will be able to make more sense of their regular statements and releases. You will be able to read between the lines looking for the clues as to what they are actually thinking, rather than what they are saying.

It is ironic to think the two largest economies in the world are run by just a handful of people, both with similar agendas. In the case of China it is the elite of the Communist party who are desperate to retain control and whose greatest fear is social unrest and public protests.

In the US it is the elite of a banking cartel who are equally desperate to retain control.

Enough of history as we now examine what the FED has been up to in the latest financial crisis, a crisis of its own making and which started under the chairmanship of Alan Greenspan.

Once again this crisis has its roots in cheap money with loans and mortgages given to all and sundry. The only criteria for qualifying for a loan appeared to be having a pulse. This led directly to the housing market bubble and its subsequent collapse and it was left to Ben Bernanke, followed by Janet Yellen, to clear up the mess.

Bernanke's solution was to create even bigger bubbles in other asset classes, such as in commodities along with the continued and unrelenting creation of bonds and consequent weakening of the US dollar.

However, times are changing for the Federal Reserve, with many now starting to openly question the institution itself, as it is increasingly seen as insular, secretive, self interested, and self motivated with little or no interest in the lives of the average US citizen or indeed anyone else.

Evan as the crisis subsides, the pain of the recent financial crisis continues to bite deep into the American psyche, many are now waking up to the realisation the FED is no better, if not worse than all the banks it represents.

In response to a rising tide of criticism and outright hostility which now threatens this private organisation, on Wednesday the 27th April 2011, the Federal Reserve took the unprecedented step of issuing its first press release, something it had never done before in its ninety seven year history.

As the FED declines in popularity, so the international community continues to press for a replacement for the currency of first reserve, as the global financial system continues to stagger from crisis to crisis with the US dollar and the FED at the heart of the problem. A currency, after all, that is derived from a country with negative real interest rates, negative savings rates and a dubious commitment to price stability.

If you recall when we looked at the US dollar and the Bretton Woods agreement which saw currencies pegged to gold, the reality was currencies were in fact pegged to the dollar, since it was only foreign central banks who were able to convert their dollars into gold.

Following the collapse of the agreement many expected this to signal the demise of the dollar as a reserve currency. In fact the reverse occurred and it wasn’t long before the share of foreign reserves in dollars actually increased during the 1970’s, with currency instability during the Asian crisis in 1997 increasing demand for the dollar, as a result.

Today, the percentage of reserves held in dollars is greater than under Bretton Woods and there are now more than 50 countries pegged to the dollar. So what does all this mean for the US economy and the Federal Reserve?

The best quote came from the French president in the late 1960’s who said:

“the trouble is that America has abused this exorbitant privilege”.

Which has given the US and the US economy a free lunch if you like with over 500 billion US dollars in circulation outside the country.

Strong demand for US assets has resulted in lower long term rates whilst America also earns a higher rate of return on its overseas assets than it pays to foreign holders of US assets. In turn this strong demand has allowed the US to run massive trade deficits, with lower long term rates helping to fuel the credit bubble and weaken the economy further. The FED’s response to the current crisis, like many others, is to print further dollars in an effort to kick start the economy back to life.

Ironically this recent and artificially created weakness in the dollar, coupled with ultra low interest rates, has created further demand for dollar denominated assets, some of which has come from the many dollar pegged countries who have been forced to buy dollars in order to prevent their own currencies appreciating.

In addition, since the collapse of Lehman Brothers, global foreign exchange reserves have increased by over forty percent adding further demand for dollar denominated securities.

Across Asia, many countries are now exhibiting the first signs of a housing bubble. Credit growth in countries such as India, Indonesia, Hong Kong, Thailand and China are all growing at an increasingly fast pace, with some markets now expanding at twenty per cent per annum. Finally, in Latin America foreign exchange reserves are exploding along with strong credit growth, and it therefore comes as no surprise the calls for the Federal Reserve to be replaced are increasing, not only in the US but from around the globe, as the US dollar and its privileged position are likely to wreak a further round of economic havoc.

But the beneficiaries once again.....the banking cartel which sits at the heart of the US economy, the Federal Reserve Bank of America.

Perhaps you can now begin to understand and appreciate the mistrust and dislike beginning to build globally towards the FED and the US authorities. As with its twin privileges of holding the currency of first reserve, coupled with its unique position as a global banking cartel, it is able to both create and destroy, governments, currencies and economies all from its base in New York.

Whether the FED survives, remains to be seen. However, one thing is for sure, the US economy will always be at the mercy of, and dictated to, by the actions of the Federal Reserve. As forex traders this is what we have to understand.

We have to recognise the FED and its agenda for what it is. Then interpret its decisions and future statements with this knowledge clear in our minds. Only then can we begin to understand the logic, the rationale of the Federal Reserve and why the US economy, the US dollar and the Federal Reserve are so inextricably interlinked as a result.

I hope it has made you realise the financial markets can be a very unethical world. The FED is perhaps one of the worst examples, but there are many others. What many find so objectionable is the thin veneer of credibility the FED is given by appearing to be a governmental or quasi governmental body, with responsibility for monetary and economic policy. Sadly, nothing could be further from the truth.

So where does Japan fit into all this as the world’s third largest economy, having only recently been surpassed by China? And to understand Japan we need to understand its economy, the Bank of Japan, the Japanese Yen, and the lessons of the so called lost decade when the miracle of its post war revival all came to a shuddering halt.

Up until the second half of the nineteenth century, Japan's economy was largely agricultural. Japan only developed into an industrial nation in the first decade of the twentieth century, thereby enabling it to emerge as an expanding global power in the 1930's, before war destroyed virtually all of its industrial base.

Following support from the US during the post war occupation, Japan slowly restored its free enterprise economy, expanding dramatically and developing quickly as an innovative, technology led economy in much the same way that China is now looking to replicate.

Indeed, there are many similarities, with a workforce quickly migrating from agriculture to industry and developing innovative products. Japan has a highly skilled and educated workforce, all underpinned by an ethic of hard work.

This ethic led to Japan dominating the world as an export driven economy, with cars and technology leading the way. Whilst exports were, and still remain, the driving force of the economy, imports are the Achilles heel for Japan. Virtually everything from food to raw materials and base commodities has to be imported, given the almost complete lack of space and any natural resources with which to fuel economic growth.

As you would expect, all the major commodity producers are only too well aware of this fact, and whilst countries such as Australia and Canada are happy to benefit accordingly, China takes a different view, jealously protecting its own vast resources, and manipulating prices accordingly.

Japan's annual GDP remained steady from the mid 1950's until the 1970's, resulting in Japan often being referred to as an economic miracle, having risen in a quarter of a century from the ashes of a world war to become the second largest economy in the world by the 1980's.

This decade was one of unparalleled prosperity for the Japanese, characterised by opulence, corruption, extravagance and waste.

The economic expansion was also fuelled by cheap money leading to house prices rising alarmingly resulting in a housing market bubble.

Personal spending soared out of control, sending the Nikkei 225 to an all time high of just below 40,000 at 39,915 on the 29th December 1989, with Japanese companies embarking on a wild spending spree as the weak dollar made foreign assets cheap. Everything had a price, including the Rockefeller Centre in New York.

If all this sounds familiar, then it should. However, the simple truth is everyone forgets and the same will apply to the current crisis, which will dim with memory, as the banks look for innovative ways to make money once more from an ever gullible public.

The Japanese party had to come to an end and did so in spectacular fashion early in 1990, leading to what has been called the lost decade. This extended from 1990 until early in the new millennium, with the Nikkei plunging in value as investors panicked, and banks teetered on collapse, only surviving with intervention from the Bank of Japan and taxpayers money.

The housing bubble duly burst, companies went bust, credit dried up and the Japanese people stopped spending. The carnage lasted for over ten years, despite the Bank of Japan pumping trillions of yen into the system in increasingly futile attempts to stimulate the economy, with interest rates reduced to zero.

A recovery was only triggered, as a result of the dramatic growth in its near neighbour China.

But what were the causes, what are the changes that have been triggered, and what is the situation in Japan now?

Most economic historians agree the foundation for this disaster was laid in September 1985, when Japan and five other nations signed the Plaza Accord in New York.

This was an agreement that called for a depreciation of the US dollar against the Japanese yen in an effort to increase US exports by making them cheaper.

Unfortunately, it had the opposite effect, and Japanese companies went on a buying spree overseas. At the same time, the cheap US dollar coincided with dramatic growth in the Japanese economy.

With the Japanese, having substantial and unparalleled levels of disposable income, the Bank of Japan simultaneously lowered interest rates from five percent in 1985 to two and a half percent in 1987 with the banks jumping onto the credit bandwagon and offering cheap loans to anyone and everyone.

The country went on a massive spending spree buying anything and everything they could. Prices soared accordingly while the banks never stopped to wonder how all this debt would be repaid. For many, it was one long party with the Imperial Palace at one point reported to be worth more than the entire state of California. Then the party ended with a bang from which Japan is only just starting to recover, almost thirty years later.

What are the legacies of the lost decade and what has been its longer term impact on the people, the currency, and the economy?

In the aftermath of the crisis, political attention and pressure focused on the Ministry of Finance. However, in an attempt to deflect criticism and blame for the crash it was the Bank of Japan (BOJ) which was offered as the scapegoat for reform.

The bank was given more independence. Prior to this, the Bank of Japan under the 1942 Bank of Japan law, had been placed under the supervision of the Finance Minister, who had the power to order the bank to act according to any instructions it issued or conversely, did not issue.

In other words the bank had very little power to act on its own account. It was essentially simply taking instructions from the Finance Minster who had instructed the bank at the height of the crisis to reduce interest rates, as the threat of a slowdown and possible recession loomed.

Some commentators have suggested the bank took this action on its own, worried about an increasingly strong yen, something we will come to in a minute, and an increasingly weak dollar.

Whichever is true, the Bank of Japan was finally granted independence from the Finance Ministry in 1997 with responsibility for monetary policy, issuing bank notes, and the management of a stable economy.

As a result of these actions is this bank truly independent? The answer, I am afraid is not, it is not, and never will be, as the BOJ always buckles to political pressures exerted by either the Finance Ministry or the public. All remember the dark days of the lost decade which heaped so much shame on the nation and brought the economic miracle to an abrupt end.

Exports are the life blood of the Japanese economy, and in the last decade the Japanese Yen has been strengthening against the US dollar moving from an all time high of 263.12 in 1984, to an all time low in of 76.67 in 2011. A strong yen makes exports increasingly expensive for overseas buyers, creating the possibility of a fall in demand for Japanese products with a consequent slide into recession.

As a result the Bank of Japan is always acutely aware of the yen exchange rate, particularly against the US dollar and is therefore openly supportive of its currency. It is the most interventionist of all the central banks, stepping in to support the currency when it feels adverse pressures are being applied to artificially weaken the yen.

These interventions rarely succeed in turning the tide or reversing the trend of the market and simply result in a short term change in direction for the currency. Furthermore, these interventions are often perceived by the markets as a political response by the bank, as it bows to pressure from the Finance Ministry and the Government.

One of the classic examples of this came in 2007 when the bank, having set up the markets for the second instalment of an interest rates rise, the BOJ buckled under political pressure and instead elected to keep the rate unchanged at 0.25%.

Independence for the Bank of Japan does not mean political independence, and political pressure has continued to increase on the bank in the last few years as the US policy of artificially weakening the dollar has impacted the Japanese yen further. This has prompted the Japanese to add their own voice to the growing demands globally for an alternative currency.

In the case of Japan, the relationship of the yen to the dollar is crucial to their longer term recovery, and a return to more normal economic conditions, making the BOJ extremely sensitive to any external pressures which are seen as anti competitive or anti trade.

Moreover, the BOJ bank has a further problem with its dollar dependency.

Japan is hugely dependent on importing all its raw materials and commodities which are priced in dollars. Rising raw material and commodity prices, mean rising inflation and increasing costs of production, which in turn are likely to lead to a fall in exports. So, once again the BOJ is extremely sensitive to rising commodity prices which have been on a long bull run for some time, partly as a result of the artificially weak dollar created by our old friend the FED.

This in turn has made the yen very sensitive to rising commodity prices and, in particular, the price of oil. Rising oil prices will generally be bad news for the Japanese yen and vice versa, which is one reason why the CAD/JPY is an excellent pair to view against the price of crude oil. Stronger oil prices are generally reflected in Canadian Dollar, and with Japan being a net importer of oil, along with other commodities, the pair correlate relatively closely with the price of crude oil.

To complete our brief look at the Japanese economy and its impact and relationship with the yen, we also need to look briefly at two other peculiarities.

The first is how Japanese companies invoice their goods and services and their accounting periods. And the second is the carry trade, which continues to remain popular owing to the interest rate differential with Japan’s remaining ultra low since the bursting of the economic bubble in the early 1990's.

The first of these issues concerns the way Japanese exporters invoice their goods, which is odd to say the least. Most large companies do not invoice in yen, as you might expect, but in fact in the currency of the country of delivery.

For example, where a Japanese company is delivering to the US markets it will generally invoice in US dollars, even if those goods are manufactured outside of Japan rather than yen, or euros or pounds, in effect taking on currency risk as part of the invoicing procedure.

This is a further reason why the BOJ keeps a constant watch on the foreign exchange markets, and intervenes so often. Clearly, if these companies are receiving foreign currency, at some point they have to sell these currencies and convert them back into Japanese Yen. In other words buy the yen and, this is something we often forget as forex traders. The forex market is where real companies have to exchange real money in the markets every single day.

However, with these monolithic Japanese organisations, the volumes are huge and easily capable of moving the exchange rates on their own, further adding to the problem of a strengthening yen, particularly against major export countries such as the US and Europe.

Why do Japanese companies work in this way? In many ways it is cultural. However, it is also an effort to control the currency risk as each year budgets are set for an exchange rate against various currencies, particularly against the US dollar. These budgets are monitored on a half yearly basis and amended accordingly.

In 2010, for example, most large corporations such as Honda and Toyota set their half year targets at Y85 to the dollar which was adjusted later in the year to Y80. What happens is that as the exchange rate approaches these levels, the accumulated reserves of dollars and other principle currencies are sold and yen repatriated.

As forex traders this is important to understand and goes some way to explaining the long term down trend for the yen against most major currencies. To put this into very basic terms. If the Japanese economy is booming, exports will be rising and the inflow of major currencies will be increasing dramatically, which at some point will have to be converted back to yen, strengthening the currency accordingly.

This is one reason why the USD/JPY pair has been falling for many years, and particularly since the recovery from the lost decade.

As well as the currency flows caused by this curious invoicing procedure which is partly historical and partly tradition, there is yet another factor which affects the yen dramatically at certain times of the year as a result of Japan’s export led economy, and this is called repatriation.

This occurs twice a year causing spikes in late summer, generally between August and September, just prior to the accounting half year end on September 30th. This effect is then repeated between February and March leading up to the fiscal year end on March 31st.

The primary reason this is done is as window dressing on the company balance sheet, but also for tax reasons. These periods are also characterised by market volatility as major currencies are sold and yen bought, repatriating the income back to the home currency of the yen. This results in relatively predictable movements in the exchange rates.

Those traders who understand the reasons are happy to trade accordingly. The Japanese are creatures of habit, discipline and procedure and these events occur year in, year out as a result. Therefore, if you are trading the major yen based pairs at these well defined times of the year, expect to see this price action develop.

Finally, to round off this section on Japan and its unique economy, there are two other factors that play out in the currency and the economy.

These are the well known carry trade, and the yen as a safe haven status currency. The first of these I will explain in more detail when we look at the yen currency pairs, but in simple terms this trade has been created by virtue of Japan’s ultra low interest rates, allowing traders and investors to benefit from the interest rate differential between the low interest rate of the yen against a higher bearing currency such as the New Zealand dollar or the Australian dollar.

The final aspect of the yen is its status as a safe haven currency which places it in direct competition to the US dollar in this respect. However, given the parlous state of the Japanese economy over the last two decades you may well be wondering why. And again the answer lies in the carry trade.

When the carry trade is in favour, traders are selling yen and buying higher yielding currencies as they take on this risky trade. If we put the 'risk' element to one side, just like a rise in equities, traders are feeling confident. So selling the Japanese yen becomes a sign of confidence. Money flow is out of the yen and into other assets and currencies.

However, when these same traders and investors begin to panic and start unwinding their positions, they begin buying the yen and selling the counter party currencies and risk instruments, so the yen is perceived as a safe haven, but not in quite the same way as the US dollar.

The 'safe haven' is the result of carry trade speculators wanting to reduce risk and close their positions. This is a subtle but important difference, and is what makes trading the USD/JPY such a difficult pair. Traders are faced with the Bank of Japan, the peculiarities of the Japanese invoicing system, the carry trade, and the ‘safe haven’ status of the Japanese yen. This is counterbalanced by the US dollar on the other side which in itself is the ultimate safe haven currency.

In the current environment of global ultra low interest rates, even the US dollar has been considered to be a funding currency for the carry trade, adding a further layer of complication to this most complex of countries and currencies, although this is changing as US interest rates begin to rise.

This is Japan and I hope you are beginning to appreciate the complexity behind the yen, and, as a result why it can be a very tricky currency trade without the knowledge I have outlined here.

Where do we start? And perhaps the most obvious place is at the end, rather than the beginning, by starting with the euro, the most recent addition to the world order of currencies.

However, before proceeding, remember this statement throughout the remainder of this chapter.

All currencies, no matter wherever they are in the world, must have three central tenets to survive. These tenets underpin all aspects of the currency, and for a currency to be viable it must have all three .

These three tenets are:

In the case of the euro, it has only one of these, namely monetary union, and in the history of money, no currency has ever survived in the long run without having all these three basic and fundamental principles in place.

Longer term therefore, the euro is unlikely to survive unless the other two tenets are put into place. It is as simple as that, so for the time being the euro is simply a monetary union of expediency, with no immediate prospect of ever achieving political or economic union.

In a political union there is a central budget and a pot of money accessible in times of crisis. This mechanism is completely absent in the case of the euro. Instead, when a crisis starts individual governments first begin arguing, apportioning blame, with all the old grudges, animosities and political in fighting coming to the fore. In addition, and adding to the above problems, there is a fundamental contradiction at the heart of the euro which is simply this.

Whilst the Eurozone (euro) has a Central Bank in the form of the ECB (European Central Bank), each member state has its own Central Bank and is free to set its own monetary policy accordingly, ignoring any fiscal rules as each follows their own path driven by their own tax and spending plans.

This makes it impossible to impose fiscal discipline on a rag bag of unruly member states created in one union and motivated purely by politics.

In short, the euro is a currency looking for a state, unlike the yuan which is a currency with too much state, and indeed even the profoundly uninspiring, unelected and incredibly un-dynamic President of Europe, Herman Von Rompuy, was forced to admit in a recent statement:

“we are clearly confronted with a tension within the system. The dilemma of being a monetary union and not a fully fledged economic and political union”

This tension has been there since the single currency was created. Some would say it was deliberately created this way, and at the time of its creation the general public was not really made aware of these crucial flaws.

Therefore, how has the Eurozone arrived at this sorry situation? A Eurozone now mired in political in fighting, as the euro project stumbles and stutters from one crisis to another. The short answer is given the lessons from Japan, the euro crisis looks set to continue to stumble and stutter for many years to come as one country after another teeters on the brink of collapse. Financial bankruptcy has only been avoided by the intervention of the European Central Bank, whose president was famously quoted as saying

Thus far, it has been enough to prevent a collapse of the euro, and prevent the exit of some of its high profile casualties such as Greece, Spain, Italy Portugal and Ireland. But for how much longer and at what price?

As always, it is easier to understand if we take a step back, and look at the key stages in the creation of the European state, its roots, the collapse of communism, and what this all means for the future both economically and politically. And for the single currency which sits at its heart.

The European Union really began life following the second world war, and was in fact a treaty designed to provide the framework for an economic recovery around the core industries of coal and steel as the shattered and war torn countries of Europe attempted to rebuild their infrastructures and economies.

The original treaty signed in 1951 was called the European Coal and Steel Community or ECSC, with the six founder members of Belgium, West Germany, Luxembourg, France, Italy and the Netherlands, and in 1957 these six countries duly signed the Treaty of Rome.

This, in effect, was the creation of the European Economic Community or the EEC, along with the curiously named Atomic Energy Community, all of which had been created in an attempt to remove trade barriers and form a 'common market'.

The three institutions of the EEC, the AEC and the original ECSC, were ultimately merged in 1967 creating a single commission and a single council of ministers. The first assembly met in Strasbourg on the 19th March 1958 as the European Parliamentary Assembly and changed its name to the European Parliament on 30th March 1962, but it was not until 1979 the first direct elections were held to appoint members directly using the novel and rather democratic system of a vote.

During the 1960's and early 1970's, the economy in Europe, boomed helped by the elimination of custom duties on trading between EEC member countries, and during this period the CAP or Common Agriculture Policy was also introduced. This was an agreement which had been designed to help poorer countries compete by providing food subsidies and aid.

However, the net result of the CAP was the creation of mountains of surplus food no one wanted including butter mountains, and wine lakes.

On the first of January 1973 three new members joined the EEC with the United Kingdom, Denmark and Ireland creating a union of nine members, followed during the late 1970's and 1980's by Greece, Spain and Portugal with the single European Act of 1987. This act attempted to harmonise laws and policies, effectively removing all the remaining trade barriers and thus creating the European single market which has since become the European Union.

The next major world event was the collapse of communism, symbolised by the removal of the Berlin wall separating East and West Germany, coupled with the collapse of the old Soviet Union. In 1993 the single market was completed creating one trading block with the free movement of goods, services, people and money between the various member states with the Treaty of Maastricht formally establishing the European Union.

In 1995 Austria, Finland and Sweden joined with only the Norwegians having the sense and foresight to tell the Europeans what to do with their project, rejecting EU membership with a resounding no vote.

Five years later in 1998 the most important piece of legislation was ushered in namely the Treaty of Amsterdam. And it was this treaty which established the ECB, the European Central Bank as the arbiter of monetary policy for EU member states, adding the final plank to this political monolith. With a 'so called' parliament and a 'Central Bank' the stranglehold on Europe was now complete.

The final nail in the coffin was the introduction of the euro on the 1st January 1999 which was released for public use on the 1st January 2002.

With the collapse of communism the clamour to join the European Union increased, with ten new countries joining in 2004, and a steady stream joining, which has taken the total to 27 at the time of writing.

Of the twenty seven member countries only seventeen currently use the euro, with notable exceptions being the United Kingdom, Denmark and Sweden who have all vetoed the currency in favour of retaining their own. Something which many other countries are wishing they had had both the wisdom and foresight to do.

There we have it. What started as a simple idea to foster trade in the EU has morphed into a rag bag coalition of disparate countries each with different agendas, cultures, objectives, and perhaps most importantly, long standing grudges.

Technically the EU is supposed to be led by the President of Europe, but in reality it is Germany with France who wield the power.

Other than giving you a brief history lesson on the creation of the European Union, what else can we learn about this trading block and, in particular, the fallout from the financial crisis that continues to reverberate around Europe and the euro?

The place to start is with the powerhouse of Europe which is Germany.

In the last twenty years, Germany has undergone two traumatic events. The first a massive downturn in the economy in the late 1990's. Second, and perhaps even more searing, was the unification between the East and West which caused mass unemployment, cultural change on an epic scale, and massive spending on infrastructure and welfare as the Germanys were reunited.

More remarkable, is following all these problems the German people were then able to regain the lost momentum with a return to economic prosperity, driven by a vibrant and powerful export market for its products and services. All very reminiscent of the Japanese recovery.

Given the above it is perhaps not surprising Germans feel little, or no sympathy for the plight of countries such as Greece, Spain or Portugal.

Germans believe they suffered the pain of reunification in silence, survived and recovered to become an even stronger nation as a result.

The cultural divide between Germany and these Club Med countries has never been wider and is what is causing so much friction and animosity. And here I write from personal experience. I am from Southern Europe myself. My parents left Italy to settle in the United Kingdom, so I understand both sides. However, the views I express here are my own and based on my own personal knowledge and experience.

Among the many differences between Germany and the Northern Europeans and the Latin Bloc is one of tax, or perhaps more specifically the attitude to tax collection. In general, Southern Europeans take a very different view of tax to their northern counterparts. Put simply, they will try to avoid paying it at any cost.

Southern Europeans are also seen as, how can I put this politely, not quite so hard working as their Northern friends. Hardly any wonder the Germans are less than enthusiastic when it comes to agreeing on any further bail outs for the Club Med group of countries.

The problem is these cultural differences are impossible to ignore when considering the EU as a whole. With more countries waiting to join the EU these differences will continue to cause friction. The cultural issues cover every facet of life, from working practices and family life to tax and the fundamental issues of saving and spending.

It has taken the recent financial crisis to shine a light on these differences and reveal in stark detail just how flawed the entire EU/euro concept has become. And the prospect of the euro replacing the dollar as the currency of first reserve is now risible.

Whilst the original aims of the European Union were laudable and honourable, as a treaty between nations to help one another after a long and destructive war, the project has long since descended into one of political nepotism, incompetence, fraud and above all a never ending gravy train for the incompetent and narcissistic. Polemic over.

However, as forex traders we cannot allow our prejudices to interfere with our judgement. Yes, we read about the problems in Europe. Yes, we read one of the member countries may reject the Euro and return to its home currency. Yes, we read the Euro will never replace the dollar, which is true. Yes, we read commentaries of how the Euro may one day die and be replaced.

But, there is one reason the Euro will survive, at least for the time being, and that is because its political lords and masters in Europe, cannot , indeed will not let it fail. There are simply too many egos and reputations at stake to allow this to happen. And, as I wrote earlier, it may be the originators of the project deliberately created the project in such a way to ensure its ultimate survival.

This current crisis may simply be the prelude to the imposition of the remaining tenets needed to create a solid, viable currency, namely political and economic union. But for the time being here are the words of Mario Draghi, current ECB President:

"People underestimate the amount of political capital that European leaders have invested in the Europe."

So, when the ECB president speaks, he will always be supportive and protective of the euro. Any problems in the union will be glossed over and the cracks papered over.

The problem for us, as traders, is we have to ignore our own prejudices and trade what we see on the chart using our own analysis, and not trade with an opinion, which is fatal. Never ever trade with an opinion. It flies in the face of all your own analysis, but this can be a problem in trading the euro.

You have to put whatever you believe or have read about the currency to one side, and simply trade what you see on your price chart, taking account of the fundamental news, using relational analysis, and take positions accordingly.

In the last few years, many, many traders have lost money betting the euro will fail. Huge short positions have been taken in the futures market. Euro shorts and bears squeezed until the pips squeaked. The euro is structurally flawed and euro bears are correct in their analysis. However, for the time being it will survive and the euro should be traded without an opinion. Indeed, to hold an opinion in trading is extremely dangerous. With the euro it's a fatal mistake to make.

Let’s move to the ECB, its mandate and how it attempts to manage this ever growing group of member states along with the broad economies that drive this trading block.

The mandate for the ECB is, in fact, simple. It is tasked with maintaining price stability which, in simple terms, means keeping inflation under control. This is interpreted as keeping harmonised inflation over the medium term, below two percent.

It also has a second mandate, which can only be fulfilled once the first has been met, and it is to support the general economic policies of the community. It is important to realise the formation of the ECB involved a huge concentration of power being devolved to form the Central Bank, with twelve national banks, small central banks if you like, being collapsed into the one. This created both a highly political organisation, as well as one that is more interested in its perception and reputation in the financial markets than in making difficult and potentially unpopular decisions which could damage its reputation in the longer term.

As we now begin to emerge from the wreckage of the financial crisis, the ECB is caught between a rock and a hard place in terms of its mandate. Does it raise interest rates in line with its remit of maintaining price stability and keeping inflation in check? However, the effect of this decision is likely to kill off any economic recovery in the weaker member states as well as tip them either into bankruptcy or add further to the mountain of debt currently being underwritten by the ECB and the IMF. In addition, it would also increase the feelings of anger and resentment from taxpayers in the Northern European base.

Alternatively, does the ECB cling to the old ideals of the German Bundesbank which is simply that growth in Europe is best achieved by higher investment in industry, which in turn requires low and stable long term interest rates, the German model if you like.

When faced with this dilemma the ECB usually reacts in two ways. First, it generally does nothing, and hopes the problem will simply resolve itself. Or, there is a knee jerk response which is often followed by a complete U turn, making it almost impossible for traders to know what they are likely to do next.

The bank’s decisions are often idiosyncratic and unpredictable, and more to do with image and perception than with dealing with the real issues in Europe head on. Every interest decision is also accompanied by a press statement immediately afterward, and it is in these sessions that we have to read between the lines to understand the logic and reasoning behind any decisions.

There is also a further problem. The euro, and as I mentioned earlier the ECB, just like its political masters, are desperate to ensure the currency survives and prospers. So, decisions are made not necessarily from an economic standpoint, but to ensure the euro continues as the primary currency within the union. Even to the extent of propping up bankrupt countries such as Greece, to ensure they do not leave the EU and the euro, potentially triggering a domino effect with other countries then abandoning the euro to its fate. This is the danger of taking the ECB at face value. There are so many political and personal influences it almost becomes impossible to make any sense of their role.

In 2011 Jean Claude Trichet was replaced by Mario Draghi, who was personally endorsed by Angela Merkel the German Chancellor. Draghi was backed as he is perceived as the most 'German' in outlook. In other words, Draghi is seen as hawkish.

This is good news for us as forex traders as we have a clear expectation of how he is likely to act. Even more importantly he has also made it public knowledge he will have no problem in dismantling the ECB stabilisation fund at the earliest opportunity, sending a clear and unequivocal signal to the markets that weak member states will be sacrificed, if necessary, and for the greater good of the longer term survival of both the EU and the euro.

With this appointment a much clearer picture appears to have emerged from the ECB with a more hawkish tone and clearer decision making as a result. If the weaker countries are indeed sacrificed in the interest of the stronger Northern European economies, this may ultimately provide the foundation of the future of the European union in an export led recovery.

Europe is a complex mix, made even more difficult with the financial problems which still continue today. Ireland has already requested and agreed a bail out package, Greece is likely to be next. If either Spain or Portugal collapse, this will send a shock wave through the markets. And yet despite all this doom and gloom the euro continues to survive and flourish, which is why we have to try to set aside all the media comments along with our own personal views of what you think should happen.

It is pointless believing the euro can ever go down on bad news. It is not that simple, as I hope I have proved. There are too many political and personal interests at work to view this as a straightforward currency. I could, in fact, spend several more chapters, just writing about Europe and the role of the ECB. After all, when member states signed up to the euro, they were supposed to abide by a set of rules for spending and borrowing. Few did of course so the rules were relaxed to make it easier for countries to comply. Needless to say some still don’t.

A further classic example of how rules originally enshrined in a treaty are circumvented by simply amending the treaty. This is what happened in order to set up the bail out fund. In this case the Treaty of Lisbon was amended to allow this to happen. The reason why is very straightforward. The EU is a politically created trading block which must be protected at all times, and if one or other of its members are likely to fail on a particular test or rule, simply change the rules or amend the treaty.

Since I started writing this book the latest calamity to befall the euro is the banking crisis in Cyprus. The difference here is that, for the first time, it is bank’s account holders who are being asked to forfeit their savings to bail out the banks. This has never happened before and is a precedent which has worrying consequences for the future. And more recently, we now have Italy and the Italian banking system which continues to creak and groan. This is potentially far more serious as Italy is a net contributor to the EU.

We will come back to the euro in a later chapter, but for now I want move on to consider the commodity currency countries of Australia, Canada, New Zealand and Norway. In the next chapter I will also be looking at some of the other major commodity producers including Africa, the Middle East and South America.

Blessed with a wealth of natural resources Australia has always had a reputation for having a strong economy, and is one of the few global economies to emerge relatively unscathed from the recent financial crisis.

Whilst other economies collapsed, Australia has continued to grow at just over 3 percent per annum, largely as a result of its strong links with the Asian markets and, in particular China.

Australia's top five commodity exports are iron ore, coal, gold, crude oil and liquefied natural gas, with Japan being the major customer for oil and gas, coal, aluminium and copper. China is the largest importer of iron ore, with the UK retaining its position as the largest market for gold.

Whilst strong export demand for commodities provided the platform for stability in the economy, it has been underpinned by the Central Bank of Australia the RBA (Reserve Bank of Australia) which has always laid down strict lending criteria for Australian banks. Most of whom have therefore avoided the excesses suffered by the rest of the world.

There are two primary factors which drive the Australian Dollar, both of which are related to the economy, but in different ways.

The first is due to the relatively high interest rates which makes the Australian Dollar an ideal candidate for the carry trade, and it is the counter party currency to the Japanese yen which has ultra low interest rates. Interest rates in Australia have rarely fallen to the levels of Europe or the US, only touching a low of three percent for much of 2009. Since then, rates have fallen further along with the rest of the world and are now stable at 1.5%. Even at this low level they are considerably higher than for many other countries.

As a result, the Australian dollar is an ideal high yielding currency for the carry trade, along with Australian denominated assets.

The second effect follows from the first, as traders take on more risk with the carry trade, the Australian dollar will tend to strengthen when markets generally are prepared to take on more risk. In other words, the Australian dollar is a gauge of risk tolerance. Stock markets will be rising, along with rising commodity prices, which in turn will tend to pull the Aussie dollar higher as export demand increases.

In many ways, the Australian economy and the Australian dollar are very straightforward, (unlike the Euro) and perhaps reflect the Australian character. What you see is what you get and, with the RBA running a tight ship, Australia has duly weathered the financial maelstrom which has engulfed virtually every other economy around the world.

The RBA was established in 1960 to carry out central banking functions of setting monetary policy to ensure currency stability, maintenance of full employment, and economic prosperity and welfare for the people of Australia. The RBA make a point of saying that since 1993 these objectives have found practical expression in a target for consumer price inflation of 2 to 3 per cent per annum.

In the bank's view, controlling inflation, preserves the value of money and, in the long run, this is the principle way in which monetary policy can help to form a sound basis for long term growth in the economy.

This is where the linkage between interest rates and commodity prices become key and, why generally speaking, rates will always be higher than in other countries around the world.

The RBA is non political. It is not privately owned, and acts quickly to take the necessary action when required. It takes no direction from the politicians whatsoever, a refreshing change from the central banks in Europe and the US.

As a major commodity exporting country, whilst rising commodity prices are good, too much can also be damaging. Whilst other countries will be driving inflation into their economies to stimulate demand, Australia will always be aware of the other side of this equation, and keeping a watchful eye in order to ensure inflation is not running away and out of control. At the first sign of a commodity market that is out of control, and probably well before, interest rates will rise. This in turn will create a further imbalance in the carry trade, with risk hunting traders, buying the Australian dollar against the yen.

The AUD/JPY (aussie yen) pair is therefore a good indicator of risk tolerance across the markets, since money flowing into the Aussie dollar is taking on more risk, and in selling the yen, risk is reducing. The mistake many traders make is to believe this is something unique to the currency markets. It is not. We are talking about risk here, and money flow is not simply the buying and selling of individual currencies, but also includes buying and selling assets denominated in these currencies, which could be bonds, equities or commodities. We will return to the AUD/JPY in more detail later, but as a proxy for risk sentiment, this is one of the best currency pairs to watch in any time frame.

In many ways the Canadian economy is very similar to that of Australia. Canada is recognised as one of the wealthiest nations in the world, both financially and in terms of natural resources, and often referred to as mixed economy, with its exports dominated by commodities.

The Canadian prairies are one of the largest producers of wheat and grain, whilst the four major provinces which bound the Atlantic coast are a vast natural resource of gas and oil along with zinc, nickel, lead, uranium and gold, with British Columbia famous for timber.

Whilst Australia has managed to weather the financial storm relatively unscathed, Canada has not been so lucky and, in 2009 the country recorded its first ever fiscal deficit. In simple terms, the government’s spending exceeded its income, the first time this had ever happened, which gives you some idea of how well the country is managed and run, both by the Government and the Central Bank, which in this case is the Bank of Canada.

The only reason Canada has fared less well than Australia during the crisis, has nothing to do with any change in economic policy, but simply due to its exports markets, as Canada, unlike Australia, is primarily dependent on one country, namely the USA. Canada's nearest neighbour absorbs almost 80 per cent of Canada’s exports, and with the US economy hitting the buffers, Canada felt the effect more than most.

As expected, commodities are the cornerstone of Canada's export market, with energy dominating in terms of conventional and unconventional oil deposits, the second of which are huge. These are deposits in the Alberta sands which are essentially grains of sand coated in bitumen. Venezuela has similar resources, and between the two countries, these reserves are considered to be greater than the world’s total reserves of conventional oil.

With conventional oil deposits and reserves in other countries eventually coming to an end, we are likely to see the Canadian economy remain strong for decades to come.

In terms of exports, Canada produces around 3.4 million barrels of oil per day, whilst Canadians themselves consume around 2.3 million barrels per day, leaving exports of around 1.1 million barrels, most of which goes to the USA.

The Canadian dollar therefore has a close relationship with the price of oil with the raw commodity converted to US dollars which flows into the country. So, the higher the price of oil, the more US dollars flow into Canada which are then converted into Canadian dollars. In other words US dollars are sold and Canadian dollars are bought.

In addition, oil is priced in dollars so this effect will be further reinforced, especially if rising oil prices are also the result of a weak US dollar, as has been the case in the recent bullish run for commodities. As a general rule, any rise in the price of oil is likely to see the Canadian dollar strengthening, a relationship that seems to remain relatively stable over the longer term time frames.

The other relationship to watch and already mentioned, is the one between Canada as an oil exporter, and Japan as a major oil importer. Here the currency pair that reflects this relationship is the CAD/JPY which also tends to follow the price of oil, so is a good pair to trade in place of oil. However, as forex traders, oil futures or spot oil prices are the place to start when considering any of the Canadian dollar pairs.

Canada’s central bank is the Bank of Canada, founded in 1934 as a privately owned corporation, but subsequently becoming a Crown Corporation in 1938, since when the Minister of Finance has held the entire share capital issued by the bank. In effect, the bank is owned by the Canadian people.

The bank is not a government department, as the governor and deputy governor are appointed by the bank. Although not political, the Deputy Minister of Finance does sit on the board of the bank, but he or she has no vote. Furthermore, the bank's accounts are audited externally and not by the Auditor General of Canada.

Much like Australia, the bank is independent, free of political coercion, and therefore able to make balanced and impartial decisions on the economy of which, like many others, price stability forms the central plank, with inflation as the key measure.

In other words, the BOC has a clear structure of central bank independence with a currency that also has clear and well defined attributes in the currency markets.

Hard commodities such as gold and coal form the core, with other metals also mined including platinum and tungsten, but the bulk of New Zealand’s export market is composed of dairy products, soft commodities and timber. Australia is New Zealand's largest export customer, followed by China, Japan and the USA. Just like Australia and Canada, New Zealand has emerged relatively unscathed from the financial turmoil, thanks largely to its close relationship with Australia which hardly missed a beat as countries around the world headed deep into recession.

One of the idiosyncrasies of New Zealand and New Zealanders in particular is that, as a nation they have a strong preference for property investments, rather than investments which are likely to increase business, exports or jobs. In many ways they are similar in this respect to the British, who are obsessed with owning property as an investment. Therefore, interest rates play a large part in the New Zealand economy.

The New Zealand dollar is yet another of those currencies which is heavily influenced by inflows of cash due to high interest rates. It is another carry trade candidate as interest rates in New Zealand have been high for the last two decades. In fact, substantially higher than most other countries, rising from 4.5% in 2000, to a high of 8.25% in 2008, before finally falling with the rest of the world to more normal levels. At time of writing they stand at 1.75% but, will no doubt, begin to rise once global demand resumes.

One of the reasons they are higher than the rest of the world is due to country’s low rate of savings, relative to investment. This forces the central bank, the Reserve Bank of New Zealand, to raise interest rates in order to keep inflation under control. This increase attracts yet more inflows. In other words, it is a vicious cycle where the currency and currency based assets are constantly being purchased, as the other side of the carry trade, resulting in New Zealand dollars flowing into the country. This in turn puts pressure on the exchange rate, with this extra spending power adding inflationary pressure into the economy.

This pressure forces the central bank to act by raising rates, which adds further to the carry trade differential. It is a tricky balance which the RBNZ constantly struggles to manage. To make matters worse, when this relationship unwinds it does so very quickly, with rapid reversals in the price trends.

This is the dominating factor for the New Zealand currency and its central bank. A central bank which has no shareholders and is in fact owned 100% by the New Zealand government. However, whilst it is owned by the government, it is entirely independent when making monetary policy decisions, of which inflation is the key priority for the bank.

The currency pair that attracts the most attention from investors is, of course, the rate against the Japanese yen (NZD/JPY). Once New Zealand rates begin to rise, the currency will be driven higher as speculators buy the currency to take advantage of the interest rate differentials once more, thereby perpetuating the cycle.

Finally, in this section on mainstream commodity currencies, let me introduce you to a currency many forex traders either ignore, or have little or no knowledge of . It is a valuable currency to have in your armoury and is closely associated with oil.

Norway has many similarities to Switzerland, in the sense that the standard of living is extremely high, as is the cost of living. In fact the cost of living in Norway is one of the highest in the world. It could be argued Norway has more money than any other equivalent nation. The value of its sovereign wealth fund stands, at time of writing, at a truly staggering $710 billion. Known as the ‘oil fund’ the money is invested overseas and really tells the story of the country and its wealth.

Norway is a country whose wealth is inextricably linked to oil and gas, and it currently ranks as the world’s fifth largest oil exporter, and the eleventh largest producer. Since the early 1970's, North Sea oil has provided the country with a rich source of income which has been invested wisely, with successive governments only allowed to spend a maximum of 4%, with the remainder invested overseas. One reason why Norway, along with Australia and Canada, has been almost immune from the ravages of the financial crisis.

Norway’s petroleum industries, which include oil and gas, account for almost 25% of GDP and approaching 50% of their export market. And, as you would expect, the Norwegian Krona is another of those currencies which could be classified as a commodity currency since, like the Canadian dollar, the price of oil will tend to be reflected in the Krona.

The first Norwegian oil field was Ekofisk, which first started production in the late 1970's, since when, large reserves of natural gas have added to Norway’s rich resources. With hindsight, Norway’s decision in 1972 to stay out of the EU appears to have been a wise one. Notwithstanding, Norway's trade policies were aligned with harmonising its industrial and trade policy with the EU. A further referendum in 1994 produced the same result as in 1972, and Norway remains one of only two Nordic countries outside the EU, the other being Iceland.

In hindsight a very shrewd move and one which has allowed subsequent governments to invest the oil revenues overseas in its own sovereign wealth fund. Furthermore, the Norwegian government is one of the few in the world to own its own oil company, Statoil, which awards drilling and productions rights to various companies.

An astute move with the company now ranked as Europe's second largest natural gas supplier, and is in the world's top ten of oil companies. In the last few years Statoil has moved into the markets of other major producers such as Canada, where it now works in some of the largest fields, using leading edge technology to extract oil from the Alberta sands reserves, amongst others.

One of the ironies of Norway is, whilst the oil boom has brought enormous wealth to the country which has been wisely invested, along with a high standard of living, over the years there has been little incentive by the various governments to invest in any other technologies or markets. Or even to help develop the labour force. Furthermore, it is strange that in a country with such a healthy bank balance, little investment has been made in infrastructure, transportation or hospitals which, whilst adequate, are nowhere near the standards of other oil rich countries in the Middle East.

Norway's central bank is the Norges Bank and, in common with many other central banks, has a very simple and clear mandate, namely financial stability coupled with price stability. However, the bank is also responsible for 'added value in investment management'. In other words, economic stability to encourage growth in a non inflationary environment. Norges Bank has executive and advisory responsibilities in the area of monetary policy and is responsible for promoting robust and efficient payment systems and financial markets. Norges Bank also manages Norway’s foreign exchange reserves and the Government Pension Fund, all of which are massive and growing, as oil revenues continue to flow into the country.

Historically, from 1991 until 2012, interest rates averaged 4.8 % reaching an all time high of 11% in September of 1992 and a record low of 1.3 % in June of 2009. Most recently interest rates have moved below 1% and aligned with European rates.

But what of the Norwegian Krona? As I mentioned earlier, historically it has relatively strong links to the price of oil and the traditional pair to trade in this respect is the USD/NOK. This is a positive relationship with the Krona strengthening with rising oil prices. This adds the same dynamic as with other commodity currencies, where the effect on the direction of the pair may either be reinforced or counterbalanced. In other words, is the effect on the exchange rate, US dollar strength or weakness, oil price strength based on US dollar weakness, or Krona strength based on fundamental news for Norway, of which the two largest are GDP and debt figures. With interest rate differentials and quantitative easing also playing their part.

However, there are risks in trading the Norwegian Krona, and the biggest of these is market volatility. The currency is relatively thinly traded, and therefore illiquid. This can result in spiky price action and for new traders this is perhaps one to watch rather than trade. Secondly, the Norwegian economy is currently on the brink of a housing bubble collapse, which could trigger a similar situation to that seen in Europe and the US, with banks under pressure and collapsing. Whilst this has not happened yet, it is a possibility and one the central bank is attempting to combat at the time of writing.

If the currency is too strong exports are penalised, so it would not come as a great surprise to see the Norges Bank intervene at some stage to protect their market. However, it is very difficult for the bank to combat the twin problems of a housing market that is over heating whilst simultaneously trying to manage a strong currency. Raising interest rates would help to stem the housing bubble, but it would also help to strengthen the Krona further. In this case the expression a 'rock and a hard place' come to mind.

This is the conundrum for Norway at present and, rather like the shipwrecked sailor, there is plenty of water and none to drink. It is perhaps the irony of Norway that, despite all the wealth, the resources and the cautious saving over the last few decades, they ultimately still face the same issues as every other nation of managing their economy and currency in an attempt to achieve long term stability. Something which appears almost impossible to achieve.

Staying in the Northern Hemisphere I would now like to consider two more EU 'refusniks', the United Kingdom and Switzerland, starting with the British pound, also referred to as Sterling, and its relationship to the UK economy.

It may come as surprise, but once upon a time the British pound was the currency of first reserve. In fact this was the case for much of the 20th century, and was only replaced in the latter half due to economic weakness, before being replaced by the US dollar.

Sterling still constitutes a significant percentage of bank reserves and is the third most widely held currency after the US dollar and the euro. In the last few years, with the continuing weakness of the US currency and the financial crisis in Europe, the British pound has increased in popularity as a result with an ever increasing number of banks holding sterling as one of their reserve currencies. This has been given further impetus following Brexit, as the currency is now seen as independent, safe, outside Europe, and backed by the most prestigious bank of all, the Bank of England.

The importance of this knowledge to us as traders is if other banks are buying the British pound as a reserve currency we are likely to see the currency move higher, all things being equal, particularly whilst problems remain in Europe, and once an agreement is finally reached with Brussels.

However, in these difficult times even the British pound has come under pressure with ratings agencies suggesting the UK may lose its AAA rating – unthinkable even a few years ago. And since writing the first draft of this book the UK has in fact suffered a downgrade. More on the dreaded ratings agencies later.

Many once 'safe' currencies, are now under threat, and this is a new feature in the currency markets. By contrast currencies such as the Australian and Canadian dollar, are increasingly perceived as ‘safe’, primarily as a result of the way their economies have been managed during the current financial maelstrom.

For the British pound, the single biggest factor which affects demand for sterling is the health of the UK economy, or rather how the markets expect the economy to perform in the near future.

And, like many other economies around the world, other then Australia and Canada, the UK has been teetering on the brink of a triple dip recession for some time, and not helped by uncertainty over Brexit and future trading agreements.

A combination of weak fundamental data, high unemployment and a lack of consumer demand have all added to the problems for the world’s seventh largest economy. In the last forty years the British economy has undergone a painful transition from one underpinned by manufacturing to one dominated by financial services.

Unlike Norway, who established their own sovereign fund from their oil wealth, the UK did nothing and, as a result has wasted all the North sea oil reserves which are now running out.

London, of course, represents the financial capital of the world where much of the new wealth is now based, and which helps to reinforce the view of the UK pound as a safe currency, backed of course by the Bank of England the central bank for the UK. The BOE was originally a private bank and only nationalised in 1946 when ownership passed to the UK government.

The biggest change for the BOE came in 1997 when the bank was given complete independence from the government with total responsibility for monetary policy, and free from political intervention. The BOE resembles virtually every other central bank in that their mandate is twofold; to provide, monetary and financial stability. The first is achieved by the setting of interest rates and the second by using its regulatory powers to ensure the financial crisis which started in 2007 is not repeated.

Although the BOE is not interventionist, it is not against making comments and observations about the relative strength or weakness of sterling. Such comments are generally made by the Governor of the BOE who, in the last few years has suggested a weak currency would be helpful to an economy struggling to recover from both a financial crisis and economic recession. Again since writing the first draft of this book the British pound has had a torrid time in the markets, selling off over 6% between January and March 2013, followed by the extreme price action, post Brexit.

The BOE tone is one which many other central banks have also adopted as something of a mantra, in order to protect their export markets. Competitive devaluation, the ‘currency wars’, the ‘race to the bottom’ all terms used to describe the systematic weakening of a currency in order to protect and stimulate a country’s economy.

Hop across the English channel, drive through France and we come to Switzerland which, geographically, sits at the heart of Europe yet it is not part of the European Union. Having remained fiercely independent from Europe, it has also remained neutral in any conflicts, although it does have a standing army which is only deployed in peace keeping missions around the world. Therefore, unlike virtually every other nation, Switzerland only spends a limited amount of its income on military assets and personnel with revenues reinvested within the country instead.

It is no surprise therefore, to find the Swiss have one of the highest standards of living in the world. The Swiss economy is based on two primary sectors, banking and tourism, of which the banking services are world renowned, largely due to the privacy laws which protect clients with Swiss bank accounts from the prying eyes of tax, and other authorities. However, this exclusivity and privacy has recently undergone a degree of reform.

The currency of Switzerland is the Swiss franc and the central bank is the Swiss National Bank (SNB). As you would expect, with banking at its core the SNB holds the seventh largest reserves of gold in the world which underpin the banking system. And which only means one thing for investors – safety.

With a high standard of living, political neutrality, huge reserves of gold, a world renowned banking system and its own currency, Switzerland stands for one thing in the currency markets and that is a safe haven in times of turmoil, and this is reflected in two ways in the Swiss franc.

First, the Swiss franc is seen as a safe haven currency. In the last ten years it has been strengthening consistently, as the US dollar has declined, with inflows into the currency accelerating dramatically as the current financial crisis has deepened. It has also seen a dramatic rise against the euro in the wake of the ongoing crisis in the Eurozone.

In times of market turmoil and uncertainty we can expect to see the Swiss franc strengthen against most other currencies. Equally, when markets are bullish and offering better returns in higher risk assets, we can expect to see the Swiss franc weaken as investors and speculators look for better returns elsewhere.

With such a strong association with gold the Swiss franc also tends to trade positively with the gold price. If the price of gold is rising expect to see the Swiss franc strengthen, partly due to the fact both are seen as safe haven assets. Gold prices may also be rising for other reasons, perhaps as the result of a weak US dollar. However, the Swiss franc may also rise because of the sheer quantity of gold in its reserves.

This situation however, does give the Swiss National Bank a huge headache. With the Swiss franc constantly strengthening for over a decade, it has made Switzerland very expensive for tourists as well as for its well developed export market in high tech machinery, electronics, chemicals and pharmaceutical products.

Furthermore, with little in the way of natural resources virtually all raw materials and base commodities have to be imported and, with over fifty percent of corporate earnings coming from exports, the strength of the Swiss franc has given the Swiss authorities a big problem. As a result the SNB is one of the most interventionist central banks in the world. Despite repeated failures to halt the remorseless upwards trend for the currency, this does not appear to deter them, just like the Bank of Japan.

However, unlike the BOJ who deny any knowledge of such actions, the SNB are quite open about their interventions.

Even the IMF, which is charged with ensuring stability of the international monetary system, has made several public statements to the effect that the SNB should intervene in the currency market in order to smooth disorderly currency movements. This is an instruction the SNB always follows.

However, each attempt at intervention by the SNB over the last few years has failed spectacularly with the only effect resulting in a sharp and temporary pull back for the Swiss franc; a spike in the markets and an expensive way to achieve very little. But, like the Bank of Japan, this is done more as a PR exercise than with any real expectation of a reversal in the longer term trend for the currency. It is also proof that even a central bank cannot stop the tide of money moving a currency in one or other direction. The only time a trend change occurs is where there is a real change in sentiment towards the currency or there is a real interest rate differential, which then makes the currency either attractive or unattractive to investors.

The most dramatic change made by the SNB in recent times was the removal of the cap against the euro in January 2015. Until then, markets had believed this was a cornerstone of SNB policy. On 16th January 2015, this all changed. The cap was removed and the Swiss franc soared almost 30% in value against the euro causing market turmoil. Brokers collapsed and customers lost billions as the tsunami swept through global markets.

Coupled with this cataclysmic event, the SNB also introduced negative interest rates in an attempt to deter investors from moving funds into Swiss francs, a policy which has remained in place since, despite an economy which is now booming. And as you can appreciate, offering an alternative to the yen for the carry trade which many consider is now the superior choice.

These two events are often referred to as 'Frankenschock'.

This section would not be complete without a look at some of the emerging nations, often grouped together as the BRICs which includes China where we started. Here we need to consider the remaining members, namely Brazil, Russia and India.

During the first decade of the 21st century the BRICs group contributed over one third to world GDP growth. In the next decade Brazil’s economy will be larger than Italy. India and Russia will individually be greater than Spain, Canada or Italy.

By the end of the decade these countries will probably contribute more than 50% to world GDP which is extraordinary and these countries will be dominating world economics for decades to come.

Brazil and the Brazilian real is a relatively new currency only adopted in 1994 following a series of disastrous changes in currency with no less than eight between 1942 and 1994. The constant change of currency was mostly due to rampant inflation and, until 1999, Brazil’s currency was pegged to the US dollar on a one to one rate.

It was then uncoupled and left to float freely in the exchange markets and is a classic example of zero to hero, with the country having recovered from a deep and damaging recession which had been triggered by the default of close neighbour Argentina in 2001. This, in turn, caused a debt crisis in Brazil from which it slowly recovered throughout the remainder of the decade, as tight monetary policies and strict credit control allowed it to emerge as one of the powerhouse nations in Latin America.

As a country Brazil has the largest economy in Latin America, but economic stability has not been easy, as it had an economy often characterised by high inflation. Inflation which has finally been brought under control using tight monetary policies and more market based economic strategies.

The cost of reducing inflation however, also led to a deep recession during the early part of the decade. Since when Brazil has become the star of the region, with a booming economy which continues to grow bringing wealth to the people of Brazil and moving millions out of poverty.

In terms of the economy, agriculture forms a major part of its exports as it is the largest producer in the world of many of the so called soft commodities such as sugar cane, coffee, tropical fruits and orange juice. In addition, Brazil also has the largest commercial herd of cattle. It is also a major producer of corn, cotton, cocoa and tobacco, along with soybeans and is second only to the US in terms of production of this increasingly valuable commodity.

With over half of the country covered in forest, timber products too also form a major part of the Brazilian export economy and therefore, just like Canada, Australia and New Zealand, the Brazilian real is classified as a commodity currency. But, in this case, one associated with the soft commodity sector.

There is, naturally, a strong and positive relationship between the Brazilian real and the US dollar, given Brazil’s commodity based economy, so as commodity prices rise the Brazilian real tends to strengthen against the US dollar. This also helps to explain in part the dramatic economic expansion of the last few years as commodity prices have soared on an extended bull run.

Furthermore, rising demand from Brazil’s largest export market China which, like Brazil continues to expand at an ever increasing rate, continues to increase demand for both hard and soft commodities. Monetary policy is set and managed by the Central Bank of Brazil, a relatively new bank having only been established in 1964. The bank has been given the responsibility for both monetary policy and the setting of interest rates to manage inflation, which is a key priority. Inflation has been rising in the last few years requiring a consequent increase in interest rates as a result.

This has led to the bank raising rates on a regular basis to control consumer spending as the nation has become wealthier. Interest rates in Brazil even rose to an eye watering 26.5% in 2003 but, at the time of writing, have settled back to 6.5% thereby making the Brazilian real a target for the carry trade.

However, unlike the Australian or New Zealand dollar, there are pitfalls in trading this strategy using the real because no matter how attractive the rate differential, the usual risks still apply. For example, lower commodity prices or a sudden change in risk sentiment. However, the biggest drawback to trading the Brazilian real is the lack of liquidity.

It is a lightly traded currency, with extremely small volumes on the futures market, which makes it difficult to exit when markets are volatile. Nevertheless, it is well worth considering provided you are aware and understand the risks involved.

Brazil is a fascinating and dynamic economy which has not just survived, but has become one of the star performers of this emerging market group.

Russia, just like Brazil has an economy dominated by commodities and, also like Brazil, has seen dramatic changes in the last 25 years. Russia has had to deal with the dissolution of the old Soviet Union and consequent collapse of communism. This was followed by a traumatic move towards a free market economy in the late 1990’s after years of state control before Russia was finally accepted as a member of the International Monetary Fund in 1992.

Not long after however, Russia suffered its own financial crisis in 1998 with the Russian currency, the ruble declining by almost sixty percent overnight. This plunged Russia into an economic spiral of inflation and economic decline which it only survived through tight fiscal policy. In much the same way as Brazil has done.

At the time of the crisis the Russian government had the foresight to create a stabilisation fund which, by 2007, had grown to 127 billion dollars. With the largest foreign exchange reserves in the world, the Russian government has also attempted to protect the economy from sudden changes in commodity prices as commodities have been at the heart of Russia’s recent rapid expansion while they continue to develop a market driven economy.

Whilst energy commodities such as oil and natural gas are the life blood in this vast country rich in natural resources, Russia is also a major exporter of soft commodities, particularly in the grains market and was an indirect contributor to the recent bullish trend in this market sector. Grain prices soared due to a damaging and lasting drought which forced Russia to implement an export ban on its grains. This in turn sent prices sharply higher in the short term.

In the last few years the economy has moved rapidly, with growth rates in excess of between 7% and 8% per annum. Much of this growth has been due, once again, to rising commodity prices in both oil and gas, which have boosted revenue flows into the country as a result. These inflows have created a strong trade balance with a massive build up in currency reserves.

The central bank in Russia is the CBR, the Central Bank of the Russian Federation. It was formed in 1990 following the collapse of the Soviet Union and the bank likes to maintain a tight grip on the Russian ruble. Much like the SNB the CBR too is quick to intervene to prevent the ruble becoming too strong.

As a result, the bank uses the exchange rate mechanism to control the value of the ruble, in particular against the US dollar which has been weakening as the Federal Reserve pursues its policy of quantitative easing. The CBR has the same problem as many other Central Banks, namely inflation.

However, unlike Western economies it has been a continuous struggle for the CRB to bring inflation under control. In the last twenty years the CBR has only managed to bring this down to single figures twice, but still well above those of most Western economies. In addition, the CBR has had one other major problem to deal with, namely the currency peg, which still remains in place. The Russian ruble is managed against a basket of two currencies, the euro and the US dollar, in the ratio 55% to 45% respectively.

Over the years the CBR has reiterated its desire to see a free floating currency, but as each year passes, this objective becomes less and less likely. The bank has an inherent fear of a free floating exchange rate, particularly given their strong relationship to volatile prices in the oil market, which are then reflected in the currency. As the oil price increases, so the ruble strengthens and the bank intervenes. It has also intervened when it considered the currency too weak. Despite making the right noises the bank has yet to make the psychological jump to a free market in foreign exchange.

This is now becoming an increasingly difficult problem for the bank. The dilemma is whether to focus on trying to control inflation, which is difficult when Russia’s export market is so dominated by commodities, in particular oil and its close relationship to the dollar. Alternatively, should the bank continue to control the exchange rate mechanism using the peg.

This problem was finally resolved in 2017, when the currency was unpegged from the US dollar and the euro and allowed to free float, and so adding another strong commodity currency to the trading armoury.

With a population of just over one billion people, it is the world’s largest democracy and, in the last decade, just like the other BRICs, has seen its economy grow at an ever increasing rate, propelling the country to become the world’s tenth largest economy and third largest in Asia.

Again India’s currency, the rupee, could be considered another commodity currency, since the country is rich in both base minerals, such as iron ore, manganese and bauxite, but also agriculture which forms the core of its export markets, along with textiles.

However the economy is gradually changing. Increasingly, India is seen as a leader in high tech industries in the computer industry as well as developing one of the fastest growing car manufacturing sectors in the world.

With a diverse and extremely well educated population, coupled with low labour costs, the country is able to provide a range of outsourcing solutions for companies around the world. This is likely to be a continuing theme over the next decade, as the Indian economy expands and develops from its traditional base.

However, just like many other economies, India has struggled to keep inflation in check with consumer spending rising fast, particularly on high tech goods and services. In addition, increases in commodities has meant the Indian authorities, in the form of the central bank (the Reserve Bank of India) have struggled to keep inflation below ten percent. The same dilemma suffered by both Russia and Brazil.

The bank has been forced to act quickly in the last few years raising interest rates from a low of 3.25 percent in 2009 to 7.75% in 2013, and more recently 6.5% in 2018.

The currency of India, the Indian rupee is also a pegged currency. However, the rupee has been pegged in a variety of ways throughout its chequered career. From 1950 until 1975 the currency was pegged to the British pound, at which point it was decoupled following the collapse of the gold standard.

It was then linked to a basket of currencies, primarily those of its major trading partners. However, following a long period of devaluation the currency was then switched to a 'managed float' regime. In theory, this means it is a free floating currency which is only managed in times of volatility, or when economic conditions dictate an intervention and adjustment of the exchange rate.

This system seems likely to continue for some years to come given India’s strong growth which is fuelling consumer spending. This in turn is leading to rising inflation as commodity prices continue to soar, a common theme for all the BRICs. Rapid expansion brings an explosion in the middle classes with rising consumer spending, inflation, and the associated problems of currency management.

Most books on forex usually stop at this point, but in the next chapter I'm going to focus on three distinct geographical regions, which deserve a section of their own. These are Africa, the Middle East and South America. They are all hugely important in different ways, but with a common theme - commodities.