This approach is for the most part identified with the so-called “macro hedge funds”. Broadly speaking, “macro” or macroeconomic-based currency speculators look for market pricing inconsistencies between the prevailing economic fundamentals and the long-term currency valuation, with the current market pricing. Their raison d’etre and their incentive is that current market pricing is “wrong” relative to those fundamentals and valuation, and they can earn excess returns by trading against that market pricing.
Here again, the line between the currency speculator and the “fundamental” market participant is blurred. After all, where is the difference in terms of incentive and action between the asset manager who invests in a country’s equity or fixed income markets and the macro-based currency speculator who invests in a currency because they think it is undervalued relative to fundamentals and valuation?
It is widely assumed that currency speculators only trade against currencies rather than in their favour, but this is very far from the case. Indeed, during the Asian crisis itself, a number of macro hedge funds bought Asian currencies such as the Indonesian rupiah on the view that they had overshot their fundamental value — unwisely and prematurely as it turned out. It has frequently been easier to make excess returns by trading against currencies rather than in their favour during the 1990s, not for any malign reason but simply because it was discovered that semi-pegged exchange rate regimes were incompatible with free and open capital markets. Keeping on the Asian example, to focus on currency speculation for or against Asian currencies is to ignore the fact that the Asian boom became a speculative bubble that was in any case waiting to burst, a bubble which the authorities were seemingly unwilling or unable to stop. Macro currency speculators are a stabilizing force against economic imbalance, an arbiter of government economic policies. The disruption that currency markets might experience is not caused by their activity. Whether they were capable of doing so in the past due to much greater leverage, that is certainly not the case now. They can merely accelerate the process, but they cannot cause it. The real cause is the government policy in the first place, which triggered the economic imbalance.