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Forex Blog - FX Briefing - Dollar unfazed by Fed policy

FX Briefing 28 November 2008

·        Highlights

·        Fed pledges gigantic bailout programme

·        Economic stimulus packages to help mitigate recession

·        ECB set to slash interest rates

 

Dollar unfazed by Fed policy

The dollar plummeted temporarily this week; EUR-USD rose over 1.30 for the first time in a

month. And dollar bears see a good chance of the greenback’s slide accelerating in the next few weeks. The reason for the dollar’s fall was the US central bank’s surprise announcement that it was buying a further $800bn of assets. Thus monetary policy easing in the US is gaining a whole new dimension, which many observers believe will have a negative impact on the dollar. Towards the end of the week, however, the US currency firmed again.

 

The Fed’s new rescue plan to stabilize the financial system envisages lending up to $200bn to

purchasers of asset-backed securities collateralized by new consumer loans. The central bank is also planning purchases of up to $100bn in direct obligations of Freddie Mac, Fannie Mae and the Federal Home Loan Banks, and also, via selected asset managers, up to $500bn in mortgage backed securities backed by Freddie Mac, Fannie Mae and Ginnie Mae.

 

By intervening directly in the mortgage and consumer credit market, the Fed is continuing its

policy of quantitative easing. Since September, the central bank’s balance sheet has risen from

around $800bn to over $2,000bn, as a result of the various liquidity measures it has taken. With the latest plans, the balance sheet will probably reach about 20% of US GDP. The federal funds rate is also indicating that, despite a central bank rate of 1%, the Fed is already in a quantitative easing phase: it has been below the Fed’s target rate of 1% for over a month. The flood of liquidity in the last few weeks has had little impact on the dollar up to now, because the additional central bank funds are being regarded as a substitute for market liquidity, which had virtually dried up. However, the Fed must take care that confidence in the value of the greenback is not shattered in the longer term.

 

President-elect Obama’s new economic team has already made an announcement: as soon as the new administration takes office in January, it will implement an economic stimulus package costing between $500 and $700bn – the biggest ever. Europe is considering similar measures to help to mitigate the effects of recession. The EU Commission, for instance, has proposed a European package totalling €200bn to boost the economy. However, it will be hard to reach an agreement at the EU summit meeting on 11 December on coordinated national stimulus packages.

 

There is no longer any doubt as to whether these packages are necessary. The leading indicators are indicating an economic collapse next year. Economic sentiment in the eurozone has plummeted recently – it has not been so low since the recession in the early 1990s. The gloomy economic outlook is putting commodity prices under sustained pressure. The price for WTI crude oil dropped below $50 per barrel temporarily. As a result, inflation rates in the eurozone have already fallen drastically in November, from 3.2 to 2.1%.

 

This gives the European Central Bank considerable scope to cut interest rates next week, especially as the impact of the credit crisis on monetary aggregates seems to be increasing. Lending to private households, for example, has dropped. The ECB is likely to revise its growth and inflation projections down significantly. Jean-Claude Trichet has already indicated that growth in the eurozone is likely to be somewhat weaker in 2009. The average annual inflation projection for 2009 and 2010 could even be below the ECB’s target rate of just under 2%. We are expecting the ECB governing council to take advantage of the scope that it has next Thursday, and to cut interest rates by at least 75, or possibly even 100, basis points.

Uwe Angenendt +49 69 718-3648

 

Economics Department

+49 69 718-3642

volkswirtschaft@bhf-bank.com

Foreign Exchange Trading

devisenhandel@bhf-bank.com

Jörg Isselmann

+49 69 718-2695

Matthias Grabbe / Klaus Näfken

+49 69 718-2688

 

This report has been prepared by BHF-BANK Aktiengesellschaft on behalf of itself and its affiliated companies (together "BHF-BANK Group") solely for the information of its clients. The information and opinions in this document are based on sources believed to be reliable and acting in good faith, but no representation or warranty, express or implied, is made by any member of the BHF-BANK Group as to their accuracy, completeness or correctness. Opinions and recommendations are given in good faith but without legal responsibility and are subject to change without notice. The information does not constitute advice or personal recommendation, for which the duty of suitability would be owed, but may facilitate your own investment decision. Moreover, you should seek your own advice as to the suitability of an investment matter mentioned herein. Investors are reminded that the price of securities and the income from them can go down as well as up and that the past performance of an investment or a market is not necessarily indicative for future results. This document is for information purposes only. Descriptions of any company or companies or their securities mentioned herein are not intended to be complete, and this document is not, and should not be construed as, an offer to sell or solicitation of any offer to buy the securities mentioned in it. BHF-BANK Group and its officers and employees may have a long or short position or engage in transactions in any of the securities mentioned in this document, or in any related securities. This publication must not be distributed in the United States.

© 2007 BHF-BANK Aktiengesellschaft

All rights reserved. Please mention source when quoting from it.

 

 

 

 

 

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