Manifest currency? U.S. dollar’s global dominance not set in stone
Incumbency, it is often said, confers many advantages.
Sitting U.S. presidents certainly have reaped its benefits – in the past 80 years, only three have been unseated.
Most economists believe the same benefits apply to reserve currencies. Yes, the U.S. dollar may one day be supplanted as the leading international currency, the thinking goes, but that day is many decades away.
Then again, maybe not.
A new working paper from the National Bureau of Economic Research that looks more closely at the dollar’s own rise to the top in the 20th century suggests, among other things, that “the advantages of incumbency are not all they are cracked up to be.”
By looking at the currency denomination of foreign public debt issued by 33 countries from 1914 to 1946, the authors – University of California-Berkeley professor Barry Eichengreen and Livia Chitu and Arnaud Mehl of the European Central Bank – find that dollar-denominated bonds were nearly equal to those priced in sterling by the late 1920s. That’s about two decades earlier than the date assumed by previous scholars.
When stripping out Commonwealth countries that had strong commercial and political links with Britain, the dollar overtook sterling in 1929.
When the euro shorts take off
Currency speculators boosted bets against the euro to a record high in the latest week of data (to end December 27) and built up the biggest long dollar position since mid-2010, according to the Commodity Futures Trading Commission. Here — courtesy of Reuters’ graphics whiz Scott Barber, is what happens to the euro when shorts build up:
The question is how many more weeks to go before a serious correction in equities?
Will U.S. criticism affect Japan’s FX stance?
Currency analysts are divided over whether U.S. criticism of Japan’s forex policy will change Tokyo’s currency stance. While some say it could raise the hurdle for further Japanese intervention, others think it might not have much impact. Rob Ryan, FX strategist at BNP Paribas in Singapore says the effect will be limited given uncertainty about the Japanese economy’s outlook and current levels of dollar/yen and cross/yen pairs.
“I think if they (Japanese authorities) feel they have to intervene, they will intervene,” Ryan says, adding that a dollar drop down to the “low 76s” might be enough to prompt further action from Japan.
The U.S. Treasury Department said in its semi-annual report on international exchange rate policies issued on Tuesday that the U.S. did not support Japan’s recent bouts of solo FX intervention, adding that they took place when volatility in dollar/yen was relatively low. USD/JPY was currently trading at Y77.98, not too far from a record low of Y75.311 hit on Oct. 31, when Japan conducted massive yen-selling intervention.
from Jeremy Gaunt:
Why is the euro still strong?
One of the more bizarre aspects of the euro zone crisis is that the currency in question -- the euro -- has actually not had that bad a year, certainly against the dollar. Even with Greece on the brink and Italy sending ripples of fear across financial markets, the single currency is still up 1.4 percent against the greenback for the year to date.
There are lots of reasons for this. The dollar is subject to its country's own debt crisis, negligible interest rates and various forms of quantitative easing money printing -- all of which weaken FX demand. There is also some evidence that euro investors are bring their money home, as the super-low yields on 10-year German bonds attest.
Finally -- and this is a bit of a stretch -- some investors reckon that if a hard core euro emerges from the current debacle, it could be a buy. Thanos Papasavvas, head of currency management at Investec Asset Management, says:
Let's assume there is some sort of breakup ... if the euro is the currency of a potentially core set of economies, then it would be an incredibly strong currency
Of course, there is the question of whether $1.36 or thereabouts represents a strong euro against the dollar. Lots of people, for example, tend to judge it by the $1.17 rate at which the euro was introduced. But the following graph suggests that if you give the euro a longer historical life, it is not all that much above its average value. Still higher than some might have expected give the crisis that is threatening it entire survival.
from Jeremy Gaunt:
When things stagnate
Goldman Sachs researchers have been hitting the history books again, trying to divine what happens to currencies when economies stagnate. Answer: Not as much as you might think
Looking at exchange rates for years before and during "stagnation", Goldman found that year-to-year FX volatility in such periods is lower than in normal periods. But a lot of it depends on the type of stagnation.
First, an average stagnation -- a period of sub-par economic growth lasting for at least six years:
On average, the run-up to stagnations (and the early years into an episode) tends to be characterised by moderate FX appreciation. Later on, FX remains flat for a while and gradually assumes a depreciation trend during the last years of stagnation. The average initial appreciation hovers below 5%, while the ultimate depreciation tends to be smaller than 10%.
Next, a "Great Stagnation" -- a period lasting for 10 years or more:
The initial appreciation can reach more than 20% (computed from the years prior to the stagnation) and the posterior depreciation can surpass 10 % .
What does this mean? Well is it not particularly good news for the United States.
from Christopher Whalen:
Are U.S. regulators worsening E.U. credit squeeze?
"Our purpose is to lean against the winds of deflation or inflation, whichever way they are blowing." -William McChesney Martin Jr., Chairman, Board of Governors of the Federal Reserve System
During his tenure as Chairman of the Fed from 1951 through 1970, William McChesney Martin Jr. saw the transition from America at war, with the government controlling much of the economy, to a peace time economy where wider financial ebbs and flows were possible. His experience in confronting both inflation and deflation during his term is instructive today.
The carefully managed, low-interest rate policy which the Fed maintained during WWII ended under Martin’s predecessors, Mariner Eccles and Thomas McCabe. These two Fed Chairmen defied President Harry Truman and raised interest rates to forestall inflation. Even when the Chinese Red Army attacked American military forces in Korea, the Fed under Chairman McCabe stood its ground and eventually won its independence from the Treasury in 1951.
Martin was picked by Truman to replace McCabe and thereby bring the Fed to heel. Instead Martin proved to be an independent man who helped make the central bank independent as well. Martin, for example, defied President Lyndon Johnson and raised interest rates in the 1960s. See Robert Bremmer’s 2004 book, “Chairman of the Fed: William McChesney Martin Jr., and the Creation of the Modern American Financial System.”
But Martin recognized that the Fed ultimately could not prevent Congress from funding spending with debt and thereby fueling inflation, Alan Meltzer wrote in his classic “A History of the Federal Reserve.” That judgment has been proven correct in today’s market volatility, which is driven by the excessive accumulation of both public and private debt. But withdrawing liquidity from solvent borrowers risks a repeat of the Bear Stearns and Lehman Brothers failures.
Were he alive today, Martin would probably argue that the Fed should continue to encourage lending to solvent banks and thereby keep the financial system liquid and functional. I suspect that his successors, like Arthur Burns and Paul Volcker, would agree. But instead U.S. regulators are apparently encouraging American lenders to reduce credit risk exposure to E.U. banks and corporations, effectively exacerbating the liquidity crisis that has been hitting European markets in recent days.
The head of the credit risk book at one of the largest French banks told me yesterday that his institution has seen a one-third reduction in the volume of credit available from U.S. counterparties. He directly attributes this change to advice to U.S. banks from American regulators. The market veteran notes that long-term credit is unavailable for most E.U. banks, increasing pressure on short-term funding pressures in the dollar/euro market.
The meaning of a dollar
The harshest congressional critic of the Federal Reserve faced the toughest internal questioner of central bank policy across a witness table on Capitol Hill on Tuesday. Surely there would be a meeting of the minds. Alas, it was not to be.
As Congress remained stalemated over avoiding a catastrophic U.S. debt default with a crucial deadline days away, Representative Ron Paul grilled a top Fed official over an issue that has been troubling him: Why is the dollar money and gold not? As Kansas City Fed President Thomas Hoenig testified before the House Financial Services domestic monetary affairs committee, which Paul chairs, the congressman told him:
Last week I learned that gold is not money. I’ve been able to put that out of my mind … so I’m still trying to find out what money is.
That, to Paul begged the question: What is a dollar? Some background: Paul, who has long advocated abolishing the Fed and returning to a currency backed by gold or silver, couldn’t get Fed Chairman Ben Bernanke to confirm, at a hearing two weeks ago, that the yellow stuff is the equivalent of cash.
“No, it’s a precious metal,” Bernanke said. Banks hold it because it is an asset that can be sold, he said. Investors hold it as a hedge against uncertain times, which is why its value has hit record levels of late.
In Hoenig, Paul might have hoped to find a more sympathetic spirit. The libertarian Texan had across from him, after all, a Midwestern former bank examiner who is the most outspoken anti-inflation hawk on the Fed and a sharp, if courteous, skeptic of much of the central bank’s strategy over the last decade.
Giant FX market now $4 trillion gorilla
Global foreign exchange has always been one of the biggest markets in the world but its exponential growth keeps accelerating. The triennial survey by the Bank for International Settlements shows global foreign exchange market turnover leapt 20 percent to $4 trillion, compared with $3.3 trillion three years ago.
The increase in turnover was driven by growth in spot transactions, which represent 37 percent of FX market turnover. Turnover was driven by trading activity by “other financial institutions” — a category that includes hedge funds, pension funds and central banks, extending a trend seen in the past several years where buyside firms are increasingly trading currencies themselves, via prime brokerage, rather than turning to interbank dealers.
Also notably, emerging market currencies are gradually increasing their share in the marketplace. Turnover of the Russian rouble has increased its share in total turnover to 0.9 percent of 200 percent (FX is double counted as transaction involves two currencies), up from 0.7 percent three years ago, while the Brazilian real rose to 0.7 percent from 0.4 percent. The Indian rupee’s share rose to 0.9 percent from 0.7 percent. The dollar keeps its dominance, although off its 2001 peak, with its share standing at 84.9 percent.
I quote the BIS report page 7: “Global foreign exchange market turnover was 20% higher in April 2010 than in April 2007, with average daily turnover of $4.0 trillion compared to $3.3 trillion. The increase was driven by the 48% growth in turnover of spot transactions, which represent 37% of foreign exchange market turnover. Spot turnover rose to $1.5 trillion in April 2010 from $1.0 trillion in April 2007.”
from Sebastian Tong:
Stop pushing and we’ll do it
The growing acrimony in the international debate over China's currency policy has led some to warn that Beijing could dig in its heels if pushed to hard to let its yuan rise.
But Barclays Capital says Beijing could let its currency strengthen as early as next month, notwithstanding its public resolve against Washington's threat to label it as a currency manipulator.
"They do have a 'If you stop pushing, we'll do it' attitude, which is kind of childish, really. But it will happen because they are the only country in the world, besides India, where there is a whiff of inflation," says Barclays' asset allocation head Tim Bond.
"It's in their own interest. It's the right thing to do."
Barclays expects the relaxation of China's de facto dollar peg to result in the equivalent of a five percent annual appreciation over the next year.
Investors should also keep the heightened rhetoric among U.S. lawmakers in perspective, Bond says.
"The anti-China lobbyists in the U.S. are a lot noisier than the pro-China lobbyists."
What can Kan do?
Mixed reaction from major European banks to appointment of Naoto Kan as new Japanese finance minister. ING is pretty scathing, saying the appointment sidesteps a process of change Japan must undertake to avoid further stagnation or a fate far worse.
“PM Hatoyama has appointed someone with no experience in economic management… Mr. Kan takes on the finance minister role without a well documented, deeply considered policy agenda. Here we rely on reports of positions he has taken in the Cabinet, and from public statements on economic management. These suggest his instincts are to pursue a stimulus strategy involving higher government spending; a weaker yen and ultra-loose monetary policy. Mr. Kan appears tone deaf to microeconomic reform or to the threats to financial stability posed by high public debt.”
The implication, ING says, confirms its worries about Japanese government bonds.
Kan’s first big foray onto the stage in his new role, meanwhile, was to talk down the yen. He said many Japanese firms were in favour of dollar/yen around 95 yen, which is a weaker rate for the yen than recently. Barclays Capital found something positive in this.
“His comments may mark a shift of Japanese FX policy towards weakening the JPY, in our view. Such a stance seems to be appropriate for Japan, considering the weak growth prospects, particularly in the first half of 2010, which will see less economic stimulus measures and, therefore, a strong need for exports to push up the whole economy.”
So, a Kan-do or a Kan’t-do kinda guy?
Cartoon showing that at least Kan thinks he Kan … http://politicomix.blogspot.com/
It seems unlikely any other nation of the world would want to have it’s currency and people abused as much as the dollar is, in our current status as reserve currency. Name one country that could withstand that kind of abuse, and survive, or benefit? None.