Friday December 15, 2006 - 16:52:59 GMT
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FX Briefing - Comeback of Japanese growth
FX Briefing 15 December 2006
â€¢ FOMC signals increased growth uncertainty
â€¢ Strong consumption forms basis of solid Japanese growth in Q4
Comeback of Japanese growth
The dollar correction continued this week. Whereas the drop in EUR-USD to about 1.31 was comparatively moderate, USD-JPY rose to over 118. More upbeat US economic data, particularly retail sales, made markets more optimistic about the economy again. Although the Fedâ€™s statement for the first time raised some doubt about a soft landing, interest rate cut expectations were priced out a bit further. At the same time, the 10-year Treasury yield rose quite substantially to just under 4.60%.
The yen was surprisingly weak, and not just against the US dollar. On Thursday, EUR-JPY rose to 155.58 â€“ an all-time high for the euro against the Japanese currency. The yen also seems to be developing differently from the other Asian currencies: under the impact of US Treasury Secretary Henry Paulsonâ€™s campaign for a more flexible renminbi, and despite a generally somewhat firmer dollar, currencies like CNY, SGD, KRW and TWD remained stable or even gained a little versus the dollar.
Moreover, the yen appears to be moving independently from the economic development in Japan. After the weak third-quarter GDP data were revised even further downwards, it had started to look as though the Japanese upswing might be losing momentum and only the BoJ was, rather stubbornly, clinging to the idea of interest rate hikes. In fact, the drop in private consumption was so substantial in the third quarter that neither corporate investmentâ€™s contribution nor that of net exports were able to improve the situation.
However, development in Japan is typically volatile and it looks as if this will be confirmed again in the fourth quarter: in October, personal spending picked up significantly by over 4% in real terms. If this level is sustained in November and December, the increase quarter-on-quarter will be in the region of 2.5%. That would signal that consumption is making a comeback. The trade balance also improved substantially in October, both in nominal and in real terms, but it would have to continue to do so, in order to balance out the underhang in Q3 in price-adjusted terms.
There is in fact quite a good chance of this happening: retail sales in the USA, from which Japanese exporters in particular profit, were very strong in November. Moreover, the latest Tankan shows that business confidence is at a two-year high, and investment expenditure is rising sharply. Industrial production also seems to be doing much better in the current quarter than in Q3: in October, it was already 1.8% higher than in the previous quarter. In our view, there is a good chance of the fourth quarter turning out very positive in Japan.
The Bank of Japan is unlikely to raise interest rates at the impending monetary policy council meeting. After the setback in Q3, it looks as though GDP growth in the current fiscal year will not quite come up to the BoJâ€™s expectations. Inflation is also likely to hover just above zero for some time to come. There is thus no pressing need to take action. The government is putting on the brake too. However, economic development in the fourth quarter will probably help to keep interest rate hikes on the agenda in Japan.
The reasons given for the depreciation of the dollar relate mainly to the current account deficit in the USA, but the currency of one of the most important surplus countries in the world has up to now managed not to appreciate. On the contrary: the yen is depreciating, in real and effective terms, against Europe and the Asian countries. The reason behind this is the extraordinarily low interest rate level, which makes the yen attractive as a financing currency but very unattractive as an investment currency. In this interest-rate environment, carry strategies have a strong appeal.
However, the trend has gone a long way. In our opinion, USD-JPY and EUR-JPY have now reached levels at which they are vulnerable to a number of risks, which could put investors off: the economic picture in Japan is brightening up, the US government is putting pressure on the emerging Asian countries to let their currencies appreciate; economic momentum in Europe is weakening, and there will probably be increased political resistance in Europe against bearing the brunt of the adjustment costs incurred by ironing out global imbalances. We would advise caution.
Stephan Rieke +49 69 718-4114
We wish all our readers a merry Christmas and a
successful New Year!
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Foreign Exchange Trading
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Matthias Grabbe / Klaus NÃ¤fken
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