Forex Research - FX Briefing - US bailout: good or bad for the dollar?
FX Briefing 26
Â·US government continues to work on rescue plan
costs are burdening European banks
about how EMU would tackle possible escalation of crisis
US bailout: good or bad for the
the last fortnight, the dollar has lost a lot of ground. Against the euro, the US
currency fell about 5% from 1.39 to around 1.46. However, considering that from
March to August the exchange rate was usually over 1.55, and given the extent
of the US
financial market crisis, the setback seems remarkably small. One wonders whether
a more marked drop is still to come, or whether the dollarâ€™s relative strength
is fundamentally justified.
first glance, everything seems to be against the dollar at the moment: the
banking system is in a structural crisis, which is hampering all financing operations
in the US
significantly. The problems in the financial markets and the housing market
crisis are now exacerbating each other; the credit crunch is slowing down
activities in other economic sectors too. Furthermore, the high energy and
commodity costs are weighing down the economy. In summer, it had looked as
though the tax cheques would avert a recession, but in autumn, the economy
seems to be losing steam again. The labour market situation in particular is
deteriorating rapidly. In August, the unemployment rate rose to 6.1%, and
initial jobless claims are increasing (they are currently at
490k), which suggests that the situation could get even worse.
forced by the pressure of events, the US
government is now trying to find a comprehensive solution to the credit crisis,
and this could support the US
currency. The policy of bailing out banks â€śrelevant to the systemâ€ť from case to
case is no longer sufficient. If further erosion of confidence in and among
banks and an increase in macroeconomic damage are to be avoided, there is no
alternative to the US
governmentâ€™s proposal to buy up the troubled assets. This poses enormous fiscal
risks, but doing nothing would do so too.
possibly with the exception of the UK,
the situation does not look quite so dramatic at the
moment: firstly, because the negative feedback loop between the housing market
system is less pronounced, and secondly because the banks are not as highly
leveraged and less dependent on money markets than the (former) US investment
factors, however, are hitting Europe
just as hard as the US.
Excessively high financing costs are affecting banksâ€™ earnings. The ECB is
offering liquidity at 4.25%, but in fact it only has control over the overnight
rate. It has lost control over banksâ€™ financing costs: the 3-month money market
rate is now almost 100 basis points higher than the ECBâ€™s refi rate, and the
spread is around 125 basis points for 12-month money. And while rates for
3-month repos and Eonia swaps are increasingly pricing in interest rate cut
expectations, the Euribor is going up. But financing costs of well over 5% are
way too high for an economy whose financial system is having to cope with heavy
burdens as it is, and which at the same time is heading for a recession.
power to act is seen as limited in the eurozone, and this could have a negative
impact on the euro. Having raised interest rates in July, it is now more
difficult for the ECB to react
and decisively to the deterioration in the economic situation. Moreover, market
participants also fear that, if the financial market crisis escalates, the
European Unionâ€™s ability to make
decisions could be hampered by national clashes of interests, the large number
of authorities responsible and the limited involvement of the European Central
times such as these, exchange rate predictions are even more difficult than
usual. There is less liquidity on the forex market, which can go hand in hand
with stronger exchange rate movements. At the moment the focus is on the risks
in the US.
But the problems in the eurozone (and elsewhere) are increasing, and
governments are doing nothing to counterbalance them. Thus we do not see the
dollar being at a particular disadvantage at present.
Rieke +49 69 718-4114
Grabbe / Klaus NĂ¤fken
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