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FX Briefing - IMF intervention: acceptable in the short term, but not a permanent solution

FX Briefing 26 March 2010


Eurozone countries agree on combined EMU-IMF aid plan for Greece

Business climate data signal acceleration of growth in eurozone

Dollar’s interest rate advantage against the euro widens on higher yields in US

US employment set to rise significantly in March


IMF intervention: acceptable in the short term, but not a permanent solution

The dollar has been firm this week. The upbeat equity market could have supported the greenback: the Dow is now heading towards the 11000 mark, and would thus return to pre-Lehman levels. But the main impetus came from Europe. The to-ing and fro-ing in the eurozone on the issue of Greece spooked the markets and pushed EURUSD below 1.33 temporarily. The strong economic data from the eurozone had little effect, however.


The yen, which has little to do with Greece, has weakened practically simultaneously with the euro. USD-JPY climbed over 92.60 – its highest level since the beginning of January. We suspect that the very low Japanese interest rates, the brighter outlook for the global economy and persistent speculation on the appreciation of the Chinese yuan are boosting capital outflows. But the current exchange rate movement might also be connected to the end of the fiscal year in Japan.


Eurozone’s compromise on Greece

Eurozone government leaders, who met on Thursday in Brussels, have finally agreed on a potential aid package (the details of which are still to be finalized) for Greece. Doubtless at Germany’s insistence, the plan envisages a combination of financial support from the IMF and eurozone member states on the basis of their respective ECB capital key. The IMF would contribute a substantial amount, but the majority of the financial aid would come from bilateral loans from Eurozone countries.


Decision to give loans will be based on assessments by the EU Commission and the ECB. Strict lending conditions will have to be adhered to and there will be no preferential terms. The government leaders emphasised that these measures were a last resort: Greece could only take advantage of the mechanism if it were unable to obtain sufficient funding in capital markets. In this connection, the government leaders stressed that they were convinced that the austerity measures implemented by the Greek government would suffice. They also pointed out that, as Greece had not requested financial aid, no decision had to be taken.


With this plan, the eurozone countries should succeed in easing the acute problem with Greece. Spreads between 10-year German and Greek government bonds have actually narrowed to 305 basis points. EUR-USD has also rebounded from its lows and is now just under 1.34.


In the present environment, the solution chosen is appropriate. There is obviously a loophole in the EU treaty: the case of a country becoming insolvent should theoretically never come about. But apparently such cases can occur. It therefore makes sense to call on the International Monetary Fund’s expertise and resources to ensure the consolidation of public finances. In addition, IMF participation is attractive from a political point of view, as less tax revenues would be required for an eventual bail-out.


This should not be a permanent solution, however. The eurozone needs tools to prevent excessive deficits and debts more effectively and precautionary arrangements in case a crisis does happen to occur. The crisis mechanism ought to function without the IMF, as the latter is responsible for providing international liquidity in balance of payment crises, not for budgetary crises. Furthermore, it is not quite in accordance with the EU treaty, if countries obtain central bank loans indirectly via the International Monetary Fund.


Strong economic signals

The strong economic data from the eurozone had very little impact on the market, presumably partly because of all the squabbling about aid for Greece. Almost all business confidence surveys in the euro area are pointing significantly upwards, particularly the German Ifo business climate index, which rose by almost 3 points to 98.1 in March. Business expectations have been quite optimistic for some time, and now the current assessment has brightened up significantly too: production increased and order book assessment has improved markedly. After a subdued start to

the year in January and February, the economy now seems to be gathering steam.


This is paving the way for a stronger euro. In the short term, however, it could be difficult for the European currency to gain ground – especially as things are looking good in the US too: interest rate spreads between T-notes and the corresponding Bunds have widened noticeably during the course of the week: by more than 10 basis points on 10-year bonds, for example. Spreads on 2- year bonds widened too. The higher yields in the US reflect growing uncertainty about the high assessment levels in the bond market in view of a central bank which is slowly but steadily working towards reverting to normal monetary policy conditions.


Macroeconomic data also confirm this trend. At the end of next week, the US labour market report for March will be published. Observers are almost unanimously of the opinion that employment will have risen again significantly for the first time, partly due to weather-related effects and extensive public recruitment for the census. We ourselves are predicting an increase of 200,000 jobs; some forecasts are much higher. Further figures support this view: the ISM index has been showing robust expansion for months; consumer confidence has been lagging behind a bit so far, but could now have picked up significantly too.

Stephan Rieke +49 69 718-4114


Economics Department

+49 69 718-3642

[email protected]

Foreign Exchange Trading

[email protected]

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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