4 July 1999 - Currencies: Hard and Soft

Paige Parker and I have made it driven from Iceland to Japan. It’s been a great drive, but also a primer for currency students and traders everywhere.

A few diary entries from the Front:

First there was Iceland with a currency which had collapsed under horrendous management in the 1980s. The experience is still seared into the minds of a populace determined not to let it happen again. The prospect of a sound currency coupled with other fundamental changes persuaded me to exchange some of my US dollars for kroner and to invest.

Next came Europe with its ill-fated Euro. We arrived for the early hoopla and hype, but didn’t believe a word of it. The Euro will certainly fail – at least as it was conceived in the Maastricht Treaty. So we rode on not buying any currencies here. I even sold short a few stock indices to hedge my share positions after seeing the unquestioning faith in the doomed Euro.

Things began changing once we left the EC and crossed into Hungary. Now we are entering a stretch of soft currency nations. It showed immediately. Hungary has made great strides in the past decade, but the consequences of decades of a blocked currency and a command economy were evident everywhere. The bloom is off the rose that blossomed in the early 90s. The nation has few high quality products to sell to the world since it never had to develop them under the Communists.

We could rarely use our credit cards. Who wants to lend money in a currency that may collapse at any time? We could use them only in a very few high-class hotels and restaurants. An occasional cash machine would advance us local currency only.

Then the fun began in Yugoslavia. The old Communist money declaration forms had to be filled in with exactly how much foreign currency you had. Since I had various foreign currencies I shuddered at the thought of having to do an accounting there and then again, at the exit. We had to buy car insurance since our European green card specifically excluded Yugoslavia, Iran and Iraq. We had to pay the road tax and we had to change money at the official exchange bank before we could get in. Since the whole point of our risking the war in Yugoslavia was to take the motorway down the center, I asked how much the tolls would be so I could exchange at least that much money. I didn’t want to exchange more than absolutely necessary since I knew the currency was in a state of collapse. We were told we could use credit cards at most hotels and gas stations.

Much to my surprise, I found that the currency was in such disrepute that not even the toll booths would accept dinars so we had to pay with either deutsche marks, schillings or dollars, preferably deutsche marks. Likewise when we got to our hotel the prices were posted in dinars and deutsche marks, which was a bad sign, but credit card emblems were on display. It was only after checking in that I found out they would not take credit cards or even dinars. Happily they said they would take shillings. I had some old shillings which were perfectly legitimate if turned into any bank in Austria, but really weren’t usable anywhere else including Austria. I had tried to pass them at the border, but that exchange bank was sophisticated enough to reject them. Fortunately this hotel took them, not knowing someone would have to take them to a bank in Austria to be made good. I felt no guilt since they had refused even to take dinars and I was sitting there with a pocket full of dinars. Likewise at the gas station the next day, there were credit card signs, but they refused them saying it was because of the ‘embargo’. It was really because the dinar was collapsing. Fortunately they would take dinars so we finally got rid of them. All this happened in Nis, which is the headquarters for the Serbian Army operations in Kosovo and the south. We had been awakened by small arms fire during the night so I was happy to get out of there no matter what.

When we arrived at the Yugoslav/Bulgarian border, I went to the Yugoslav exchange bank to redeem the few dinars I had left knowing they were worthless outside the country (and almost worthless inside the country). Even the Yugoslav State bank refused to take the dinars. They explained they only sell dinars, they don’t buy them. It was clear to us that serious trouble was coming.

The one good thing was no one even bothered to ask me for my foreign exchange declaration when I left. We presume it’s either because so few foreigners come through that border post or because the country is falling apart. I tried to the government exchange bank on the Bulgarian side. As expected, they also refused the dinars. The head of the Bulgarian branch did agree to a private black market deal for deutsche marks and a 50 percent haircut. Gladly, I accepted even though the amount was small. I kept a couple as souvenirs knowing the dinar was collapsing and disappearing for the third time in this decade. I found it ironic that I was doing a black market deal with a Bulgarian official whereas only nine years before I would have gone to jail for doing a black market deal under the Communists and could never have done it openly with a government official.

I quickly realized there is a controlled downward float that averaged about four percent a month at the time. The Turks all have lived with and adapt to this and even take credit cards in much of the country. I presume Turkish banks have large hedging departments. I was excited by the secular changes I saw in Turkey and hope for the day when the Turks finally understand a stable currency is part of the price one pays for solid investment and growth.

The currency declaration forms immediately appeared and all fees were payable only in dollars, not even in lira from their neighbor Turkey. Again however, I found a friendly border official who quite openly exchanged my lira for dollars with which I could pay my official fees. The border crossing itself took several hours and I was afraid that Georgia had learned too much from its previous Soviet masters. We found that no one took credit cards and few wanted to accept the local currency since it was suspect. It had been declining precipitously for the last six months after an earlier brief period of stability. Many government employees had not been paid for six months but it was clear that the government had started printing money since the pressures were building. They had learned another lesson from their bankers in Moscow. The only good news in Georgia was that no one asked for my currency form when we left. This time it was clear that it was because the border guards had never seen anyone with a currency form.

Crossing into Azerbaijan, we found a currency that was not in free fall perhaps because it is more independent of Russia politically and economically these days than most former Soviet states. Plus, the economy is oil based giving more independence from Russia. We did have to fill out a currency form even though the currency is completely convertible. There were exchange posts on every corner accepting even Russian rubles. The exchange rate was stable enough that you could pay with foreign or local currency in shops.

We took the ferry across the Caspian Sea. When we could finally get tickets the master of rooms quickly pulled us aside and said he would give us rooms on the black market at reduced rates if we would pay him dollars direct. In the end we did so, but the rooms were so horrible we wound up with rooms in the crews’ quarters. Even then, we’d paid too much.

Entering Turkmenistan was probably the worst bureaucratic maze. It took us over five hours despite having valid visas. Our visas were the most expensive of any other country costing us $225 per person in the end. We had to buy insurance which only became valid after 15 days even though our visas were only good for 14 days. Despite our protest, they told us to buy it or not enter Turkmenistan. I eventually asked how much coverage we would have after we had already left the country. The answer was $300 for a $36 premium. A lucrative business indeed! We also had to pay an international fuel equalization tax on entering the country. The amount depended on our route through the country, which was carefully drawn on a map that we were supposed to carry with us. All fees were payable in dollars. Local currency not permitted. I found out there was an active black market at a rate over three times the official rate. The currency was in free fall and everybody knew it.

The first night we stayed in a military motel where even the manager accepted the black market rate for our rooms.

At the Sunday Bazaar, the busiest section was the jewelry group packed cheek by jowl; people pushing and shoving as everyone was trying to get rid of their paper money. There was a black market at the Bazaar even though the KGB presence was so heavy we had our film confiscated in case we had discovered major state secrets among the vegetable and rug stalls. At one stage we went to the state museum and didn’t have enough local currency so we offered dollars assuming they would take them at the black market rate. Everyone else would. The clerk did not so I walked outside to a guy who was selling currency at the black market rate; then back to the museum.

Paige had her hair cut by President Turkmenbashi’s personal hairdresser who charged in dollars rather than Turkmenbashi’s currency.

We had to turn in our currency form on leaving but no one paid any attention to our declarations. Turkmenbashi has spent so much money on public monuments that he has basically drained the public treasury and is paying his bills by printing money. The currency had fallen by 70 percent in the few months previous. He has been betting on the long awaited Caspian Sea pipeline and continued American aid, but he has vastly overextended himself as the pipeline is years away if ever. The currency market is not waiting.

This was another country with a blocked currency and another currency form. None of the currency forms were ever inspected when we left since none of the other people crossing these borders were hard currency travelers. We found another currency in the process of free fall. The black market rate was nearly four times the official rate. Even babushka on the hotel floors wanted to change money although her rates were off the market rate. I presume she figured we weren’t smart enough to know the going price. It is amazing how the black market always finds you when you have hard currency. Every time I’ve seen rates this high, it’s been a sure indicator that troubles were on the way – political, social, and economic. The attempt on the president’s life in February was just the beginning. Business people in Uzbekistan have a constant struggle with convertibility that is only getting more difficult. We even ran into people who had hard currency in their bank accounts that was suddenly wired out to pay government bills and replaced with the local currency at the official rate.

Kazakhstan and Kyrghyzstan
Both have a free market in their currencies and both governments are trying to maintain a controlled float downward. It was clear soon the rate was depreciating more rapidly than the governments’ announced 10 percent per year. The market didn’t read the official pronouncements.

In both there were exchange booths everywhere. People were happy to accept dollars, deutsche marks, rubles or the local currency, but I suspect that will change soon.

In China there were no exchange forms required. I was delighted we could get cash advances with credit cards, even in the desert, even if we had to figure out banking hours on our own. At one Bank of China headquarters, the signs said it was open 15:00 – 20:00. The locals explained to us it was really only 16:00 to 19:00.

Despite Beijing’s guarantees against devaluation, the black market is reviving. In Urumqui it doesn’t seem too suppressed or worried given that the market takes place on the steps of the Bank of China headquarters. The premium is only about 7 ½ percent, which is probably why the authorities don’t pay a lot of attention at the moment. With some comparison shopping, I finally got a 9 percent premium. It’s all very open and above board. I even saw the head of the black market inside the bank in front of the foreign exchange window making a last minute pitch to a local businessman to let him provide his hard currency needs rather than go through the bank. The businessman declined in the end, presumably because the transaction was so large it might have aroused undue attention. It was interesting to see the black market kingpin and two of his lieutenants standing there in the lobby counting 10-centimeter thick wads of 100-dollar bills. Perhaps since the premium is so small we did not run into black marketeers as frequently as elsewhere. But it may also be because we traveled mainly in areas rarely visited by people with hard currency.

China has vowed not to devalue its currency despite the problems of its neighbors. The market seems to indicate that this promise may not last forever. It will not work. If China does not adjust its currency, there will be social, labor or political unrest.

Once I see the turmoil – either in the currency markets or in the streets – I plan to use it as my signal to invest in China and Asia in a big way.

I suggested China should just make its currency convertible. It cannot take its place as a major world economy until it does so. This would kill two birds with one stone. Let a free market decide the proper competitive rate for an opening economy. I notice the Chinese have not followed my advice.

It is not called the Hermit Kingdom for nothing. Korea has become one of the world’s great success stories with a closed protected economy with central direction. The government has emulated the Japanese example, but with the added advantage of tons of US aid to prop up the various dictators. For example, we loved the highways that we figured out had been built by the American military for military as well as political reasons. The hubris following several years of rapid growth got its come-uppance during the Asian crisis. Change and opening are being forced on Korea from within and without. The fourth youngest population in the world is demanding and gaining a more open economy and society aided by $60 billion of extra aid.

The most poignant casualty of the great changes in Korea is the black market. Wander over to the packed market beside and behind the Central Bank. There is merchandise and activity everywhere – almost chaotic in the style of Asian markets. Then you may notice an old lady with a large black purse seated at the edge of the street. Or perhaps the two others a few meters away quietly chatting in their chairs. Eventually you will notice 10-20 of these ladies scattered around the periphery of the market. Aha! The black market lives – but in greatly reduced circumstances.

The opening of the economy has almost eliminated the currency black market. These few ladies left will give you a slightly better rate than the bank, but they may disappear completely when the government finally removes the last of the few currency restrictions.

Every black market I have ever encountered over the last three decades has been a young man’s game – except this one. I presume the scores of young men who populated this street five years ago are now trading currencies behind screens in major banks leaving this slow, low-margin business to their grandmothers.

Now we are back in the land of hard currency. There are no currency forms, no black markets, no devaluation or convertibility worries – just the richest country in the world with cities, countryside and infrastructure to prove it. There is nothing quite like a sound currency which is something more people need to learn. It is almost dull compared to where we have been although that will sound nuts to the millions around the world trying daily to figure out the next trading level of the yen. I, for one, am bullish on the local currency. I’ll be exchanging more of my dollars for yen, but it won’t have quite the thrill in dealing in currency markets I have known to date.