FX Briefing - Dollar collapse at the end of the year
FX Briefing 19
adjustments to US current account balance call for weak dollar
Â·ECB will soon
have to face the facts: growth collapse will be even more dramatic
Dollar collapse at the end of the
dollar has continued to plummet. Last week, EUR-USD rose by about 5%, and this
week, the European
currency has climbed further, gaining almost 5% to around 1.40. It even reached
a peak of 1.47 temporarily, but profit taking then set in. Most other
currencies posted gains versus the dollar
too: the Swiss franc was this weekâ€™s winner with an increase of around 7%; the
yen also rose by about 2%; the pound however only managed a minute gain of
dollarâ€™s marked losses are a correction: in our opinion the greenbackâ€™s earlier
gains â€“ the result of dollar-oriented investors abruptly turning their back on
risky assets after the Lehman
in a rather illiquid market â€“ were exaggerated. Without easy access to credit
and without the boost from rising property prices, private consumption in the US
is likely to be much more sluggish than in the past. Thus the savings rate is rising.
When on the one hand private households save more, that means that on the other
hand either companies have to invest more or the state and the external sector
have to save less. But US firms are likely to remain reluctant to extend their capital
stock for some time. The US
government is in fact spending massively and raising the budget deficit. But
the state cannot permanently fill in for lacking private sector demand. So in
the end the external sector (the foreign trade partners of the US),
will have to reduce their savings, i.e. net exports. This in turn speaks for a
course it is not possible on the basis of these fundamental reflections to make
an accurate exchange rate forecast. A EUR-USD rate of around 1.25 â€“ which from
a purchasing power parity point of view could be regarded as more or less â€śneutralâ€ť
â€“ is likely to be too low, however. Rates of around 1.40 or 1.50 are probably
dollarâ€™s slide was presumably triggered by monetary policy. In the run-up to
the FOMC meeting, markets had already been speculating on a further interest
rate cut, but then the aggressiveness of the Fed surprised even hard-boiled observers:
the US central bank wants to keep overnight rates in a range of 0 to 0.25%;
this is practically zero interest rate policy. Moreover, it says it is likely
to keep interest rates at this exceptionally low level for some time to come.
The Fed is thus making a commitment for the future. And finally, it is pledging
to support credit markets and economic activity through quantitative easing.
Fedâ€™s course of action is quite the opposite to that of the ECB. ECB
representatives reiterated this week that they are not expecting any monetary
policy changes at the January meeting. Furthermore, they are emphasizing that
the loose policy will have to be corrected as soon as possible. And they have
also made bond markets nervous by declaring that EU states which get into
financial difficulties should not be bailed out by other member states. Such
utterances are canceling out the effectiveness of the rate cuts implemented.
are, however, still convinced that the ECB will soon have to face the facts. It
though the 2009 growth forecast made at the beginning of December is
unrealistic: according to
press reports citing government sources, the German economy shrunk by 1.25 to
1.75% in the fourth
quarter; should that turn out to be correct, a GDP decline of â€śonlyâ€ť 2% in 2009
would be rather
optimistic. However, it looks very much as though the contraction will continue
in the new year;
the business climate and industrial new orders have deteriorated drastically.
Thus the slump will probably be even worse in Germany
â€“ more in the range of 3 to 4%. This would mean that the ECB forecast of â€“1 to
0% for the eurozone is completely unrealistic.
are therefore expecting the ECB to resume cutting interest rates in the new
year â€“ if not in January, then all the more drastically in the following months.
Once the ECB starts shifting
a more aggressive policy like the Fed and other central banks, the euro could
particularly if this coincides with bad economic data from the eurozone.
However, we see EUR-USD above 1.40 in the longer term.
Rieke +49 69 718-4114
We wish all our readers a Merry Christmas and
a happy and successful New Year.
Grabbe / Klaus NĂ¤fken
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