-Jane Foley is research director at Forex.com. The opinions expressed are her own.-

The discrediting of the efficient markets theory in the aftermath of the financial crisis appears to have been accompanied with growing support for the view that rather than efficient in nature, financial markets are predisposed towards the formation of bubbles.

A bubble can simply be defined as an occurrence that begins when the price of an asset has been driven significantly above it "fair" value. According to the efficient markets theory this would not happen.

If bubbles are a natural outcome of financial market activity it is relevant to ask whether the very loose fiscal and monetary policies of many central banks and governments are presently sowing the seeds of the next bubble.

Even though the real economies of the U.S., UK, Eurozone and Japan continue to be defined by expectations of rising unemployment and falling real wages, access to cheap money has already helped restore the profitability of many investment banks.

In turn, this has fed risk appetite which is evident in the rally in stocks since the spring, increased demand for "risky" currencies and a recovery in commodities prices. Brent oil has rallied by 128 percent from its 2009 low. The ability of oil to rally despite the existence of oil supplies well above the seasonal average suggests there is already speculative element in this market which could be in danger of driving prices above their fair value.

This week’s meetings of the Federal Reserve, the Bank of England and the European Central Bank have focussed attention not so much on rates, but on the extraordinary policy decisions taken by these central banks in the wake of the financial crisis and whether conditions are ripening in favour of a gradual withdrawal of some of these policies.

The Fed last week ended its $300 billion treasury bond purchasing plan, though it will carry on buying mortgage backed securities. The Bank of Japan last week announced that it will stop buying corporate bonds at year end. The Reserve Bank of India also removed emergency support measures last week.

This week there is speculation that the ECB could announce that it will hold no more 12-month cash tenders next year. By contrast the Bank of England is expected to increase quantitative easing at the November 5, Monetary Policy Committee meeting. Supporters of quantitative easing continue to stress that the lack of clear inflation pressures suggests there is room for these plans to be extended.

However, the lack of response in either money supply or inflation indices could equally be illustrating that these plans are not having a significant impact on the real economy and are therefore no longer appropriate. The paring back of these plans are likely to have an impact on the ability of some banks to turn an easy profit and thus should rein in risk appetite and limit speculative and "bubble" forming activity.

Unfortunately, a bubble can only be truly confirmed after it has burst; a characteristic with clear destabilising consequences. If bubbles are natural phenomena within financial markets, the need for tighter regulation and ongoing reviews of processes that oversee the financial system are absolutely necessary.

This conclusion, while in complete contrast to the implications of the efficient markets theory, ties in very well with the political desire to reform the banking regulatory framework in order to protect the tax payer from future hefty bank bail-out costs. The banking landscape, while already vastly different from just two years ago could continue its transformation for years.

researchEMEA@forrex.com

Recent U.S.  gross domestic product data show the world's biggest economy emerged from recession in the third quarter, while in the UK data show that in the same period Britain's economy contracted.

British economist and author John Kay theorizes that Britain is mired in its worst recession on record in part because government support has not been evenly distributed across sectors.

"We've poured money into the financial sector -- by and large the financial sector in Britain is doing OK," he said.  "But very little of that is getting through to small and medium-size businesses out there in the rest of the economy."

British economist and author John Kay argues in "Narrow Banking: the reform of banking legislation" that the financial services industry should be restructured to ensure that regulation serves the interests of the public.

"A competitive marketplace is one in which well run businesses earn profits through domestic and international competition, and badly run businesses go to the wall," he says.

"That is the process by which the market system promotes innovation and economic progress, and suppression of that process damages innovation and economic progress."

-Jane Foley is research director at Forex.com. The opinions expressed are her own.-

The U.S. dollar may have found support this week but the USD index remains at a 14-month low.

The impact of the financial crisis in drawing buyers to the "safe-haven" dollar has in effect been almost cancelled out by the healing in risk appetite. The dollar looks to have re-embarked on the downtrend that had been in place for more than two years prior to the start of the financial crisis, only now the U.S. fundamentals have arguably deteriorated further.  

Slow growth and a hefty budget deficit are likely to hamper the attraction of the dollar for some time.  That said, there is a huge invested political interest in ensuring that any further declines in the dollar remain orderly.

The weakness of the dollar has already prompted some Asian countries such as South Korea and Taiwan to intervene in order to prevent the appreciation of their currencies impacting competiveness.  This action can be viewed as a protest against the renminbi-dollar peg and a guard against losing competitiveness to China.

As the euro rises against the dollar, it is also rising against the renminbi and -- spurred on by the actions of other Asian central banks -- the chances are that it will continue to appreciate against a host of other Asian currencies.

Since the start of last year, the euro has risen by 37 percent against the South Korean won.  In recent comments, French Finance Minister Christine Lagarde stressed that she did not want to see the euro bearing the brunt of the downward adjustment of the dollar. 

The U.S. is still the Eurozone’s second largest trading partner after the UK suggesting that a move above EUR/USD1.500 cannot be welcome, but the pegging of the renminbi versus the dollar makes the downward adjustment of the dollar a far more painful experience for the Eurozone.

This is not the only objection to the renminbi-dollar peg.  The traditional objections relate to the huge US and Chinese imbalances which are evident in the ability of China to build-up huge foreign currency reserves largely denominated in dollars. 

Domestic policies which could lessen savings and promote domestic consumption are the usual prescriptions offered to China.  Higher government spending on social systems such as education and healthcare could offer part of a solution as this should limit the amount of savings viewed as necessary and boost consumption. 

Clearly a weaker exchange rate could be a significant part of the solution since this should limit export growth and promote demand for overseas goods.

Clearly China can not rush a move to a flexible exchange rate regime.  The Chinese authorities understandably fear that a quick move could prompt capital flight and undermine its banking system.  A fully convertible, flexible exchange rate must be a long term goal rather that a quick fix solution but China can expect to feel increased pressure to adjust its currency peg versus the dollar.

The renminbi and the dollar are of course linked in more ways than one.  China’s exchange rate regime can be blamed for exacerbating global imbalances which have undermined the value of the dollar.  It is ironic then that China, along with other creditor nations, now has an interest in supporting the value of the dollar in order to avoid a sharp depreciation in the value of its assets.  

Theoretically, the sudden, sharp rise in the U.S. budget deficit towards 11 percent of GDP this year, Obama’s difficulties in making progress with healthcare reform and projections for below trend U.S. economic growth at least through 2010 should be sending bond investors to run for the hills. 

The maintenance of good demand from overseas central banks for U.S. Treasury paper this year suggests that creditor central banks are continuing to play their part to ensure that the decline of the dollar remain orderly.  A move to EUR/USD1.55 may be further away than it seems.

Even if a deal is reached among political delegates at the upcoming United Nations Climate Conference in Copenhagen, it is unlikely to set out specific emission targets, says Mike Hulme, author of "Why We Disagree About Climate Change" and a professor at the University of East Anglia in Norwich.

"What we've done with climate change is to attach so many pressing environmental concerns to the climate change agenda that trying to secure a negotiated multilateral agreement between 190 nations is actually beyond the reach of what we can achieve," he argues.

Hulme, who will take part in a debate hosted by the Institute of Economic Affairs in November about carbon emission policies and economic activity before he heads to the Copenhagen conference, discussed his views with Reuters.

-Matthew Bath is technology editor at Which? The opinions expressed are his own.-

Microsoft’s Windows operating system has been frustrating and delighting computer users in almost equal measure since it was first debuted by the software giant first in 1985. Fast forward through nearly a quarter of a century of powering the majority of the world’s personal computers, and Windows is about to hit another milestone.

Windows 7 launches on October 22, worldwide, and it’s safe to say that, as a firm, Microsoft will be collectively crossing fingers and toes that shoppers flock to the new version.

The successor to its Windows Vista operating system, Windows 7 promises to be faster, more reliable and make computing simpler than ever – so much so that like a proud parent, Microsoft hosting worldwide coming-of-age parties to help launch Windows 7 onto PC desktops worldwide.

Yet the key question is whether consumers, already stung by what many found a problematic Windows Vista, are as willing to take a punt on this latest version.

Certainly, it’s chalking up record sales – and Windows 7 has overtaken Harry Potter and the Deathly Hallows to become the biggest grossing pre-order on Amazon.co.uk of all time, and the online store says demand for the new operating system remains strong.

So why are shoppers pre-ordering in droves? Partly, it’s because Microsoft fumbled the ball with Windows Vista, leaving some users frustrated and fed-up with an operating system that felt sluggish and crash prone. A chance to jump to a shinier ship is welcomed. Partly, last time lots of people stayed away from the Windows Vista party following negative reports, remaining with the perfectly functional Windows XP instead.

The surge in sales tells only part of the story, however. Which? has talked with shoppers who tell us they are confused by Microsoft’s different versions (with six different prices at the last count), and there are lots of questions around whether the upgrade really is worth the hassle.

Certainly, a lot of the features seem fairly cosmetic on the surface, and some will appeal to only a handful of users. If you’re one of the chosen few to own a touchscreen PC and monitor, then the new multi-touch features in Windows 7 will have you clapping (and pinching and swiping) your hands with glee as your monitor turns into the equivalent of an outsized Apple iPhone.

Other features – such as easier home networking and interface tweaks to make navigation simplier are all good, but seem slight. Rather, Microsoft has been significantly reworking the technology that happens under the hood of Windows, making it less crash prone, faster, and hopefully a better experience.

If you’re happily using Windows Vista, though, then there really isn’t a compelling reason to upgrade as the new features are hardly lengthy.

And if you’re using Windows XP, then Microsoft has a different message for you: your PC is unlikely to run Windows 7 well, and you’ll have to fork out for a new computer. That’s an expense in these economic times that many consumers might find a little tough to swallow.

And, finally, amidst all Windows shopping it’s easy to forget that most new operating system launches are hit with bugs, glitches and incompatible software. That’s normal, but not any less frustrating.

So, if you are looking longingly through the Microsoft-shaped window, our advice is clear. Resist the temptation to upgrade straight off the starting blocks and wait for Microsoft and other software makers to find and fix the niggles and bugs, then feel free to jump in to Windows 7.

-Jane Foley is research director at Forex.com. The opinions expressed are her own.-

If there is one foreign exchange story that will run and run it is the one about the U.S. dollar (USD) and its future as the world’s dominant reserve currency.  The discussions on this topic have at least brought some agreement, namely that there is no clear alternative and therefore there can be no quick fix change.  That said, much uncertainty remains as to what can, if anything, eventually replace the dollar.

The basis for questioning the USD’s position as global reserve currency stems from its declining value and its "poor" fundamentals.  The dollar index is currently trading close to where it was 14 mpnths ago, ahead of the financial crisis.  At that point the USD had been on a downtrend for over two years. The widening in the U.S.’s budget deficit this year has worsened the fundamental backdrop and drawn attention to its "twin deficits".  This has made creditor nations nervous. 

So, how bad are these fundamentals?

The U.S. current account deficit this year has actually improved.  However, once the U.S. recovery gets underway, many expect to see the current account widen again.  Textbooks suggest that a current account deficit should lead to a downward adjustment in the currency which will help address the imbalance.  This is not always the case.  Australia presently has a current account deficit of around 4.5 percent of GDP and the effective Australian exchange rate has rallied by 27 percent since January 1, 2009. 

Current account imbalances, while always a potential currency negative, only weigh if international savers become less keen to fund it.  Investment decisions will be determined by other factors such as relative growth and interest rates, political stability and fiscal coherence.   A huge USD negative this year has been the widening in the budget deficit to potentially 11 percent of GDP from 4.7 percent in 2008.   This implies huge bond issuance. 

To date, Treasury auctions have been well subscribed.  While supply has not caused the USD any clear problems, budget deficits of this size inevitably imply fiscal spending cuts which could weigh on growth for years.  This suggests limited growth in addition to low short-term interest rates which is a poor currency dynamic.

While a strong budget position is highly desirable for a reserve currency it is not the only factor.  Clearly a reserve currency needs to be fully convertible.  This requirement counts out the Chinese yuan (CNY).  The ability to cope with huge liquidity demands excludes currencies such as the Norwegian krone, Australia dollar and the New Zealand dollar.  The euro (EUR) fails the criteria insofar as there is no single sovereignty.  

Some argue that differing fiscal policies in the Economic and Monetary Union (EMU) have the potential to lead to friction, while others stress the geopolitical line that the absence of a single policy on defence would for some countries mean that the EUR would be an inadequate USD replacement.  This does not mean that the EUR will not take a greater role in the coming years.  There are signs that central banks have slightly increased their holdings of EUR along with the Japanese yen (JPY) this year and this trend may continue.

Looking forward, assuming U.S. fundamentals remain poor it is feasible that talk of a basket of reserve currencies will eventually become more relevant with the EUR and the JPY potentially playing a greater role and even the CNY playing a part in the next decade or so.  However, any adjustment in central bank currency reserves will be slow and is unlikely to lead to any tangible downward pressure on the USD particularly since creditor nations have an interest in protecting the value of their holdings.  As a result, any additional USD declines are likely to remain orderly.

researchEMEA@forex.com

- Padraig Reidy is news editor at Index on Censorship. The opinions expressed are his own.-

Solicitors Carter-Ruck have withdrawn the terms of an injunction preventing the Guardian from reporting a parliamentary question by Newcastle-under-Lyme Labour MP and former journalist Paul Farrelly.

This has been seen - rightly -  as a victory for free expression, and a demonstration of the amazing power of the web in the face of attempted censorship.

Once the Guardian had published its slightly cryptic story on its website last night, containing such tantalising phrases as: “Legal obstacles, which cannot be identified, involve proceedings, which cannot be mentioned, on behalf of a client who must remain secret”, it was inevitable that people would go searching.

Within hours, the Internet was alive with speculation, links to leaked documents, and republication of cached articles. At one point on Tuesday morning, phrases relating to the case constituted four of Twitter’s top ten “trending topics” --- a scarcely believable profile for a story that, technically, no one was supposed to be talking about.

Carter-Ruck seem not to have noticed the mindset of an increasing number of web users: once we are told we can’t know something, modern web users will set about finding out about it with a gleeful determination --- and more often than not with neither the cautiousness nor the proprietary attitude to information that can slow down “traditional” reporting.

The Streisand Effect -- whereby attempts to censor information end up ensuring the information is only spread more widely, is something that lawyers and judges are going to have to figure out.

The strong libertarian culture of the Internet quite simply means that you cannot get away with telling people what to do, and what to read, while surfing. Today’s Twitter triumph is more a victory for the culture of online social networking than it is for the technology.

And an important victory it is. What was at stake here was not merely a newspaper’s right to tell a story, but the very principal of open democracy: if newspapers and other media cannot report everyday parliamentary proceedings without fear of the courts, it is not just the journalism industry that suffers: it is the common citizen’s ability to participate in, and scrutinise, politics.

-Kully Samra is branch director at Charles Schwab, UK. The opinions expressed are his own.-

The economic crisis that has prevailed over the global markets in the last 12 months has undoubtedly rattled investors worldwide, but rather than leaving their heads in the sand, seasoned investors have continued to search for opportunities amidst the instability.

One such opportunity that seems to have been overlooked by UK investors is that of overseas share ownership.

Whilst I have no doubt that there are viable investment opportunities in other markets, I do believe that the U.S. market provides a whole wealth of opportunities for the UK investor, especially those looking to diversify their portfolios. 

Whilst this belief stems from our experience of the U.S. markets it was recently supported by the findings of our latest survey which looked at the investing habits of active UK retail investors; specifically in relation to their views on overseas investments.

Our independent survey of more than 1400 British-based active retail investors found that 44 percent believed that the U.S. economy and financial markets would recover sooner than those of the UK, with only 28 percent believing that the UK will recover ahead of the U.S. 

We also found that investors expect the U.S. to lead recovery more generally, with 39 percent of respondents believing the U.S. will take more than 12 months to come out of recession, compared to 50 percent for the UK.

We agree with this assessment of recovery and believe that with the Dow and S&P posting their best quarterly results in Q3 since 1998, the U.S. economy is showing some signs of improvement and recovery is starting to get underway.  We are not however unrealistic and expect a few bumps along the way. 

It would not be surprising to see occasional selling surges in the market, though we believe that the dips are likely entice investors who are still on the sidelines back into the market.  This should help to keep any pullback relatively limited.  We also believe that the third quarter will post positive GDP growth that will continue into the fourth quarter.  With growth returning both in the U.S. and around the world, we remain optimistic on the near-term future of the market.

The Land of (Missed) Opportunity

Despite this positive assessment of the opportunities that the U.S. market holds for investors, the sentiment of missed opportunity that I discussed previously is echoed in our survey.  Only 17 percent of respondents who believed that the U.S. would be the first to recover actually invest in U.S. stocks. 

This naturally poses the question of why this is.  Our research shows that the main reason investors do not automatically turn towards the U.S. market, despite their belief in a quicker recovery than the UK, is not because UK investors prefer to invest in British companies (only 15 percent of respondents stated this reason) or because they perceive any barriers to entry (a small 2 percent of respondents cited this factor), but because they do not feel they know enough about the U.S. market (41 percent).

In terms of investment behaviour, the U.S. stock market is largely unexplored and under penetrated by UK investors, especially given our survey participants’ expectations of a speedier recovery in the U.S.  In addition, Dollar weakness should make U.S. companies relatively more attractive to foreign purchases.

Amidst the turmoil prevalent in the global financial markets in the last 12 months, a diversified portfolio is ever-more crucial, and the U.S. is one area where investors could definitely benefit from increasing their exposure.

-Tim Cocks is a Reuters correspondent in Iraq.-

This month we reported that the number of civilians dying violent deaths in Iraq had hit a fresh low since the 2003 U.S.-led invasion -- about 125 for September.

Sounds like a lot, but for a country that only two years ago was seeing dozens of bodies pile up in the streets each day from tit-for-tat sectarian killing, it was definitely progress.

And as I prepare to end my assignment in Iraq this week, I need no argument from numbers to convince me that things are better here than when I arrived in Feb. 2008.

During my first few months, militants loyal to to anti-American cleric Moqtada al-Sadr were raising hell in Baghdad, firing mortars and rockets at the Green Zone almost every hour. We could hear or feel them thud on impact, especially when they fell short, on our side of the Tigris.

A rocket hit the BBC building opposite us, causing a blast loud enough to shake our windows, although thankfully no one at the BBC was hurt by the strike.

U.S. airstrikes on Baghdad's Sadr City slum were killing many civilians. Roadside and car bombs were erupting all over the place and the streets were largely deserted after dark.

Eighteen months on and things are hardly back to normal but, as any Iraqi will tell you, Iraq feels safer than it was.

Security forces have been purged of Shi'ite militiamen and are doing a better job of stopping suicide bombings, enabling U.S. combat forces to largely pull out of Iraq's cities in June.

We rarely hear explosions in Baghdad. A semblance of law and order seems to be taking shape.
Reporting from Iraq, as a Westerner or an Iraqi, has been a tough business for some time. For Westerners, apart from the fact that few foreign correspondents here speak passable Arabic, the big headache remains security.

Ever since insurgents started kidnapping Westerners and beheading them in 2004, the foreign press corps here have been living in a kind of semi-incarceration, behind rows of concrete blast walls that make you feel a bit like a lab rat in a maze.

It varies from media organisation to the next, but all of us are pretty restricted in our movements.
We generally keep a low profile, moving around Baghdad in low key armoured cars. We don't wander the streets for long periods of time or frequent bars and nightclubs after work.

The assumption is that any Westerner is a prime target for kidnappers -- for political reasons or for a juicy ransom.

And this is not to say there are no dangers to Iraqi media workers. More than 130 have died in violence since the beginning of the war.

Seven of our colleagues from Reuters have been killed in that time, most of them Iraqis.

Security restrictions have left us heavily dependent on dedicated local journalists who can visit places we cannot and help us cobble together stories we send to the wire.

That's perhaps as it should be in a global news agency with strong local talent, but it's hard not to miss roaming the streets as I would in almost any other country.

As a military correspondent, embedding with U.S. troops has been an experience, though it can hard to get the full picture that way -- for instance, persuading a nervous bystander in the street to talk to you when you're surrounded by heavily-armed American soldiers has proved a real challenge.

As security improves, our leash has been lengthened. I've been able to travel to places with that were once off-limits, like many parts of northern Iraq.

Will it continue getting better? No one can claim to know the answer to that question. Many Iraqis are pessimistic, as well they might be after decades of war, dictatorship, brutal sanctions and sectarian bloodshed. But since Iraq was pulled back from the brink in 2007, it has defied gloomy predictions.

But I'm reminded of comments by the head of the Red Cross Iraq delegation Juan-Pedro Schaerer about avoiding the temptation to write off Iraq's persistent violence as "normal".

This week, one of our journalists, Ahmed, was awoken in the middle of the night by loud gunshots.

Gunmen had stormed the house of his neighbour and family doctor, and shot him in the head. Ahmed took him to hospital, where he remains in critical condition. He may never walk or talk again.
Clearly, that feeling of nearly normality is fragile.

Related blog: A voice in the wilderness?