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from Global Investing:

Strong dollar, weak oil and emerging markets growth

Many emerging economies have been banking on weaker currencies to revitalise economic growth.  Oil's 25 percent fall in dollar terms this year should also help. The problem however is the dollar's strength which is leading to a general tightening of monetary conditions worldwide, more so in countries where central banks are intervening to prevent their currencies from falling too much.

Michael Howell, managing director of the CrossBorder Capital consultancy estimates the negative effect of the stronger dollar on global liquidity (in simple terms, the amount of capital available for investment and spending) outweighs the positives from falling oil prices by a ratio of 10 to 1. Not only does it raise funding costs for non-U.S. banks and companies, it also usually forces other central banks to keep monetary policy tight, especially in countries with high inflation or external debt levels. Howell says:

If you get a strong dollar and intervention by EM cbanks what it means is monetary tightening...The big decision is: do they allow currencies to devalue or do they defend them? But when they use reserves to protect their currencies, there is an implicit policy tightening.

The tightening happens because central bank dollar sales tend to suck out supply of the local currency from markets, tightening liquidity.   That effectively drives up the cost of money, as banks and companies scramble for cash to meet their daily commitments.  Central banks can of course offset interventions via so-called sterilisations - for instance when they buy dollars to curb their currencies' strength, they can issue bonds to suck up the excess cash from the market. To ease the tight money supply problem they can in theory print more cash to supply banks.  But while many emerging central banks did sterilise interventions in the post-crisis years when their currencies were appreciating, they are less likely to do so when they are trying to stem depreciation, says UBS strategist Manik Narain.  So what is happening is that (according to Narain):

from Breakingviews:

CICC loses a princeling, gains investment appeal

By John Foley

The author is a Reuters Breakingviews columnist. The opinions expressed are his own.

To lose a princeling looks careless, but no worse. That should reassure backers of China International Capital Corp, the Chinese investment bank whose well-connected chief executive has just resigned.

from Breakingviews:

Markets finally side with economy on bad news

By Edward Hadas

The author is a Reuters Breakingviews columnist. The opinions expressed are her own.

Market historians could call the last five years the QE period. Quantitative easing, a polite term for money creation by central banks, has pushed free and ultra-cheap money into almost all financial markets, supporting or pushing up prices. The era is coming to a close. As investors overcome their monetary dependence, they have to look at the real economy. It’s not encouraging.

from Breakingviews:

Markets may flare again without Fed and ECB hoses

By Ian Campbell

The author is a Reuters Breakingviews columnist. The opinions expressed are his own.

After a January in which emerging-economy fires blew smoke into investors’ eyes, markets are calm again. Somewhat dovish noises from Janet Yellen, the new chair of the U.S. Federal Reserve, have, at first, reassured. But there are good reasons to worry.

from Breakingviews:

Markets give central bankers lessons in humility

By Edward Hadas

The author is a Reuters Breakingviews columnist. The opinions expressed are his own.

Markets are teaching central bankers some hard lessons. The monetary authorities in developed economies are learning how hard it is to switch direction. And emerging markets are showing that no policy rate is right when the economy is wrong.

from MacroScope:

Shock now clearly trumps transparency in central bank policymaking

The days of guided monetary policy, telegraphed by central banks and priced in by markets in advance, are probably coming to an end if recent decisions around the world are any guide.

From Turkey, which hiked its overnight lending rate by an astonishing 425 basis points in an emergency meeting on Tuesday, to India which delivered a surprise repo rate hike a day earlier, central banks are increasingly looking to "shock and awe" markets into submission with their policy decisions.

from Breakingviews:

Markets could be their own worst enemy in fear binge

By Edward Hadas

The author is a Reuters Breakingviews columnist. The opinions expressed are his own.

The optimistic investor consensus about 2014 is in danger of disappearing. Investors seem to be having second thoughts about the thesis that GDP growth would be reasonably strong almost everywhere and financial problems would not reach disruptive levels. Markets tumbled last week and have continued to weaken. If investors do not calm down soon, they could spark the crisis they fear most.

from MacroScope:

Auto-pilot QE and the Federal Reserve’s taper dilemma

 It wasn't supposed to be this way.

When the U.S. Federal Reserve launched its third round of quantitative easing, or QE3, it was hailed as an "open-ended" policy that would last as long as needed. Most important for investors, the pace of the bond buying - which started at a somewhat arbitrary $85 billion per month - would be "data dependent." Especially throughout the spring, officials stressed they were serious about adjusting the dial on QE3 depending on changes in the labor market and broader economy. But as the unemployment rate dropped to 7.3 percent last month from 8.1 percent when the program was launched in September, 2012, the bond-buying has effectively been on auto-pilot for 14 straight months.

Now, some are wondering whether the decision not to at least tinker with the program has made the first so-called taper a bigger deal than it needed to be. "When you don't react to small changes in the data with small changes in the policy then the markets tend to read more into it when you do change policy," St. Louis Fed President James Bullard said last week after a speech in Arkansas. "It makes policy a little more rigid than it maybe should be."

from Global Investing:

Steroids, punch bowls and the music still playing: stocks dance into 2014

Four years into the stock market party fueled by a punch bowl overflowing with trillions of dollars of central bank liquidity, you'd think a hangover might be looming.

But almost all of the fund managers attending the London leg of the Reuters Global Investment Summit this week - with some $4 trillion of assets under management - say the party will continue into 2014.

from Global Investing:

Why did the market get the Fed and ECB so wrong?

To err once is unfortunate. To err twice looks like carelessness.
One of the great mysteries of 2013 will surely be how economists, investors and market participants of all stripes so spectacularly misread two of the biggest central bank policy set-pieces of the year.
The first was the Federal Reserve's decision in September not to begin withdrawing its $85 billion-a-month bond-buying stimulus, the second was the European Central Bank's decision in November to cut interest rates to a fresh low of just 0.25 percent.
The Fed's decision on Sept. 18 not to "taper" stunned markets. The 10-year Treasury yield recorded its biggest one-day fall in almost two years, and the prospect of continued stimulus has since propelled Wall Street to fresh record highs. (See graphic, click to enlarge)


A Reuters poll on Sept. 9 showed that 49 of 69 economists expected the Fed to taper the following week, a consensus reached after Ben Bernanke said on May 22 that withdrawal of stimulus could start at one of "the next few meetings".
But tapering was - and still is - always dependent on the data. And throughout this year, the Bernanke-Yellen-Dudley triumvirate has consistently noted that the labour market is extremely weak and the recovery uncertain.
Going into the Sept. 18 policy meeting unemployment was above 7 percent and the Fed's preferred measure of inflation was well below target, barely more than 1 percent.
Plus, a simple read of the Fed's statutory mandate of achieving "maximum employment, stable prices, and moderate long-term interest rates" should have dispelled the notion a reduction in stimulus was imminent.
"People just didn't want to listen. They just didn't believe that they have to follow the data. They've not been listening, and it's really hard to understand why," said David Blanchflower, professor of economics at Dartmouth College in the United States and former policymaker at the Bank of England.
It was a similar story with the ECB's interest rate cut on Nov. 7 which only three leading banks - UBS, RBS and Bank of America-Merrill Lynch - correctly predicted.
These three institutions quickly adjusted their forecasts after shock figures on October 31 showed euro zone inflation plunging to a four-year low of 0.7 percent, triggering the euro's biggest one-day fall in over six months.

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