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FX Briefing - No real alternatives to the dollar

FX Briefing 15 January 2010



China’s central bank raises reserve requirement ratio to 16%

Markets sceptical about Greek savings plan

ECB remains on course


No real alternatives to the dollar

At the end of last week, after the release of weaker- than-expected US jobs data for December, EUR-USD had strengthened from 1.43 to about 1.45. After hovering around this level for most of the week, it finally dropped to 1.44. The yen, which had suffered a setback last week after comments made by the new finance minister, firmed to around 91 against the dollar.


The dollar still remains the favoured currency. This is not so much because of US economic

data, which painted a mixed picture, but rather because the rest of the world is not looking particularly attractive at the moment. The Chinese central bank, which had started to raise central bank bill rates the previous week, increased the reserve requirement ratio for commercial banks from 15.5 to 16%, thus underlining its intention to curb credit expansion. Many observers are now expecting the PBoC to raise lending rates too.


China’s shift towards a less expansive monetary policy is having an impact on equity and currency markets, particularly those in the Asian emerging markets, and on commodity markets. Asian equity markets, for instance, were much weaker than US markets.


Europe is still grappling with the debt crisis in Greece. This week, the Greek government unveiled a plan to cut the budget deficit to 8.7% of GDP this year and reduce it to 2.8% of GDP by the end of 2012. But markets are skeptical whether the government will be able to implement the measures in the face of mounting opposition from interest groups such as trade unions. Despite the ambitious plan, spreads between 10- year Greek government bonds and Bunds widened to 282 basis points.


ECB President Jean-Claude Trichet’s remark that the European central bank would not change its collateral rules for the sake of Greece probably had a negative impact too. If the ECB reverts to pre-crisis rules in 2011 as planned, Greek government bonds may no longer be accepted as collateral by the ECB after that date.


German GDP growth data for 2009 is unlikely to have made the euro more attractive either. According to the preliminary results of the German Federal Statistical Office, German GDP fell by 5% in 2009. Those who had forgotten the true extent of the damage when growth rates turned positive again in the second quarter of 2009, will have been brought back to earth with a bump by that figure.


Moreover, the Statistical Office reported that economic growth in Germany probably stagnated

in the fourth quarter, which was another disappointment. If this assessment proves correct, the

statistical overhang for 2010 could turn out to be lower than forecast. Thus some downward revisions are likely, especially as growth in the first quarter of 2010 could be lower than expected due to the weather.


Money market deceptively calm

On Thursday, the ECB held its first meeting of the year. As expected, last month’s assessment

was confirmed: interest rates remained appropriate; the euro area economy was expected to grow at a moderate pace; inflationary pressure was low. The previous month, the governing council had outlined its plans to exit from unconventional measures. There was no additional information on this topic this time. In reply to journalists’ questions, Mr Trichet merely said that there would still be an abundant supply of liquidity in the money market for some months to come. While that was the case, the EUONIA rate would also be close to the deposit facility rate. Furthermore, Mr Trichet said that decisions on further steps in money market management would be taken in March.


The ECB appears to be in no hurry to bring money market management back to normal –

particularly as regards draining excess liquidity from the money market and reverting to refinancing operations with variable interest rates. We, however, think it risky to bank on money market rates remaining at their present level until the second half of 2010 at least.


On the one hand, in December, the ECB predicted a gradual recovery in financial markets,

and pointed out that the continuation of the unconventional measures harboured a risk of market distortion. On the other hand, the excess liquidity is not likely to be drained from the market “naturally” before July at the earliest, as that is when the one-year tender of €442bn issued in June matures. And it could be even later than that, if, for example, market participants take advantage of the 6-month tender at the end of March to stock up substantially.


We consider it unlikely that the ECB will wait six months or more before embarking on implementing its decision to bring money market functions back to normal. Furthermore, its commitment to allocate the one-week tender in full is only valid until the middle of April. Changing to a variable-rate tender could prove difficult, however, if the money market remains flooded. We would therefore not be at all surprised if the central bank was already in the throes of considering ways of mopping up liquidity.

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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