Weekly Foreign Exchange Insights: September 19th

September 19, 2008

In spite of the euphoric bounce in worldwide equities and relapse of gold prices today, I’m not optimistic about the dollar.  Enormous central bank infusions of dollars to defrost frozen money markets are supposed to get sterilized, but I doubt that will occur fully.  The pile of bad debts to be identified and expunged will be too big an undertaking not to entail loose Fed policy and some degree of inflation.  Investors have a selectively favorable memory about how effortlessly the Resolution Trust Corporation dispatched the savings and loan mess nearly 20 years ago because the $400 bill to taxpayers was lower than feared.  People forget that U.S. real GDP rose only 1.8% per annum during the four years to 3Q93 or that the dollar fell 47% against the yen, 34% against the mark, and 24% on a trade-weighted basis from highs in June 1989 to lows in early 1995.  The details of future U.S. policies are uncertain in every way imaginable from precise content to the timing of necessary legislation. 

The architecture of the U.S. and global monetary systems is going to be changed by design or force of circumstances much more profoundly this time than before, so it takes a leap of unsubstantiated faith to assume the RTC solution will be as well suited for today’s landscape as it was for yesterday’s.  Washington is much more partisan than it was, and the uncertain outcome of the election in just 6-1/2 weeks is another source of policy confusion.  The depth of the credit crunch and its resistance to innovative crisis management are underscored by the number of failed attempts to contain the problem during the past thirteen years.  When the S&L crisis was addressed, communist regimes were unraveling around the world, enabling the U.S. to pay less attention to foreign policy and to curb the defense budget.  Back then, the Group of Seven politicians had the power to handle anything and just about everything.  Not so anymore.  A solution to the current credit crunch without cooperation from China and oil producers with huge dollar holdings is unthinkable.  Good reasons exist why so many pundits say we are in the most dangerous worldwide economic waters since the 1930’s.

The dollar is not following a linear path to weaker levels.  A corrective rally, which began against some major currencies like the Canadian dollar and sterling before the end of 2007, against the yen and Swiss franc back in March, and not against the euro and Australian dollar until July, lost momentum over the past two weeks.  At 13:30 GMT today, the dollar had eased on balance against the pound, Australian dollar, kiwi and Canadian dollar for a second consecutive week, and it was also down this week against the euro, yen and Swiss franc.  It showed month-to-date net losses against the yen and Canadian dollar, was unchanged for the month versus sterling and yuan, but still embodied significant net appreciation of 3.9% against the Australian dollar, 2.2% against the kiwi and 0.9% relative to the Swiss franc.  Dollar movement, in short, has not been uniform in magnitude or direction. 

The extraordinarily difficult trading conditions faced by currency market players are magnified by a huge noise component.  Underlying trend can easily get lost in the intra-day swings.  The dollar traded this past week in high-low ranges with a width of 6.4% against the Australian dollar,5.9% against the kiwi, 4.4% against the yen, and 3.1-3.5% against ther Swiss franc, euro, Canadian dollar and sterling.  High-low dollar bands for the past week are compared below to ranges in the week to September 12th and the month of July.  The table illustrates the strong trend and inter-day volatility that have been both present.

$ versus July September 8 – 12 September 15 – 19
Euro 1.5521 – 1.6038 1.3882 – 1.4428 1.4078 – 1.4541
Swissy 1.0521 – 1.0014 1.1418 – 1.1130 1.1278 – 1.0900
Pound 1.9650 – 2.0153 1.7448 – 1.7975 1.7733 – 1.8386
Yen 108.38 – 103.79 109.08 – 106.07 108.06 – 103.55
Can$ 1.0277 – 0.9977 1.0821 – 1.0553 1.0807 – 1.0472
Aus$ 0.9398 – 0.9849 0.8353 – 0.7901 0.8331 – 0.7803
NZ$ 0.7311 – 0.7759 0.6439 – 0.6840 0.6890 – 0.6490


Central Bankers will remain in the spotlight next week as advisors and participants in the public sector’s efforts to contain the global credit crisis.  Although the Norwegian Central Bank (Norges Bank) left a tightening risk bias when its policymakers last met on August 13, market analysts look for the policy rate to be held steady at the scheduled meeting on Wednesday, September 24th.  The rate was also left at 5.75% after the August meeting.  Minutes from the Bank of Japan’s meeting in August meeting will be published.  The BOJ now releases explanations of its actions after every meeting on an immediate basis, so the minutes should contain little surprise or items of interest.  Since the dollar bottomed against the euro in mid-July, the euro has strengthened 2.3% against the Norwegian krone but lost 7.7% against the yen.

Although the international calendar of scheduled data releases is on the lean side next week, there are some items of particular interest.  Preliminary Euro-zone PMI indications for September will be reported on Tuesday and are expected to show sub-50 scores consistent with continuing contraction.  The Japanese July all-industry index will rise solidly, given better-than-forecast industrial output and service-sector activity, but the release is already dated and not indicative of current conditions.  Germany’s IFO index for corporate expectations and conditions is due Wednesday and is likely to weaken.  Germany also reports consumer confidence.  I don’t expect a response to lower energy prices.  Too much else is scary and  going poorly.  Italian and French consumer confidence, Belgian business sentiment, French personal spending and Euroland money and credit figures arrive, too.  If domestic markets give a thumbs-up to whatever is forthcoming to quarantine bad debts and markets are looking for reasons to sell European currencies on signs of economic softness, some of these releases may get noticed in that way.  But cyclical economic trends are no longer the straw that is stirring currency movements, not in September at least, and will be of minor import
ance.  The same will be true of U.S. data, although existing and new home sales on Wednesday and Thursday will shed further light on the bad debt problem, the size of which can only be guessed until that still-unknown time in the future when the housing market stops weakening.

Sterling bears watching.  Just when it had captured the spotlight as the potentially weakest major currency for the immediate future, the bad debt problem hijacked all other factors, and sterling performed better in the process.  From a low of 0.8186 against the euro on September 3rd, It has recovered 4.2% to 0.7851, and cable (sterling’s rate of exchange for dollars) has advanced 5.2% since September 11’s low of $1.7448.  Another factor to watch is oil, which at $100.82 per barrel has climbed over 10% in less than three days including today when gold has fallen sharply.  Oil is the ultimate roll of the dice.  The drop from $147.27 in mid-July to $91.15 earlier this week is not the first big-sized setback since the Iraq war began.  The earlier ones gave false hope to oil consumers.  It may be that markets are trying to stabilize oil around $100, a comforting psychological level, or this may be the start of a new up-leg.  We should know the answer to that question much sooner than we solve the mystery of how to restore a normal function to money and other financial markets.


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