IB FX View

Geithner versus the Fed

Wednesday November 11, 2009

Much of Tuesday’s reluctance to follow-through in terms of selling the dollar has come undone today. Fresh evidence from China of the state of global growth is compounded by a slew of mediocre comments from Fed officials indicating low rates are part of the economic fixtures and fittings. The euro looks set to remain above $1.50 for the entire U.S. session against the dollar and that would likely create a basis for further gains during this week. The positive Asian market data wheeled the carry-trade back onto center stage right next to its partner of a sickly dollar. 


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Let’s start with a review of the Chinese overnight statistics, which spawned bullish sentiment for commodity sensitive currencies. The Australian dollar paid more attention to data from its largest trading partner than its own data. Admittedly it was just a small decline in the reading of the Melbourne Institute and Westpac Banking Corporation’s reading of consumer sentiment to 118.3 from 120.8 that was largely overlooked. The Aussie dollar was propelled towards 93.50 U.S. cents and even breached the October 21 high before settling back to 93.06 in mid-New York morning trading.

Driving the currency higher earlier was the 16.2% monthly increase in Chinese retail sales and a 16.1% year-over-year increase in its industrial production. That was the best performance increase in 19 months. The smallest decline in export volume so far in 2009 also produced a near-doubling in China’s trade surplus to $24 billion. The only negative within today’s dataset was a decline in the pace of consumer lending, which fell from a September extension of loans valued at about $37 billion to $17billion in October. Some might even argue that this represents a sensible policy restriction from the People’s Bank of China in response to recent surges in values of equity prices and real estate.

The Canadian dollar also benefitted and you have to look no further than the triple play of rising equities, gold and crude oil to conclude that today will prove a positive one for the behavior of Canada’s dollar as it surges back to buy 95.75 U.S. cents – a three week high. The price of gold is 1.2% higher and reached yet another eye-opening record price earlier at $1,118.60 per ounce. For those reasons, we’ll cast an eye onto the collective words of wisdom from the U.S. treasury secretary and various Federal Reserve officials.

Today in Tokyo Tim Geithner did his best, once again, to explain the need for drastic short-term measures in order to attain long-term economic health. At the heart of the global financial system is the role of the U.S. dollar and again Mr.Geithner attempted to explain that he understands the importance of the value of the dollar, that the U.S. wants a strong dollar and that the external financial community deserves and relies on a healthy greenback. The problem he recognized but is largely impotent to address is the plight of the dollar as the ongoing recovery process is put into play.

The low interest rates necessary to get the economic ball rolling off the bottom of the canyon don’t necessarily favor dollar holders at present. Nor does the increasing supply of government bonds do much to allay the fears of overseas investors that the dollar dominance isn’t heading for longer-term troubles. And while that ball remains in motion – witness the above role and health of China – investors are encouraged to pillage the U.S. dollar and plunder the more rewarding returns from elsewhere around the globe: For that, witness the above performance of the commodity currencies.

While Mr. Geithner is busy lamenting over what could be for the dollar, if only we could have all of our tomorrows today, various Fed presidents from around the country are discussing in underwhelming fashion the likely performance of the U.S. recovery. Each commentary below serves to prolong the day when official short-term rates will rise.

San Francisco Fed president, Janet Yellen depicted a “jobless recovery” recently, while Richmond head, Jeffrey Lacker discussed the modest pace of consumer spending growth going forward. Atlanta Fed chief, Dennis Lockhart was particularly downbeat when he spoke about a “relatively subdued pace of growth this quarter and beyond.” In a similar recap, Dallas chief, Richard Fisher said that growth and inflation may persist below ideal levels into 2011. So it looks like the Fed is highly unlikely to offer any support to Tim Geithner in terms of yield appeal for the greenback.

The decline in the dollar index to a 15-month low today proves across the board sales in favor of other currencies. However, the British pound also fell victim to selling pressure today. Readers may well recall yesterday’s key sterling driver of the possible loss of the nation’s credit standing from ratings agency, Fitch. Today, the Bank of England delivered its once a quarter Inflation Report, which predicts inflation and growth combinations assuming current market projections.

The Bank of England revealed that on current expectations the rate of inflation over the next three years would remain below the 2% central rate. That assumes a rise from 0.5% to 2.25% by the end of 2010. This was a bit of a shock for money traders today, and it forced them to start reducing the amount of likely rate rises out of the Bank. In addition governor Mervyn King also dropped a couple of sterling negative comments. We know that at last week’s monetary policy meeting the Bank voted to raise the amount of bonds it will purchase under extended plans to add quantitative easing. But today Mr. King revealed that monetary leaders retained an “open mind” to further extending the program. That tone didn’t sit well with investors today who sold the pound to $1.6615 making sterling one of the only currencies not winning against a lower dollar today.

Finally, Mr. King also appeared to warmly welcome a recent sterling depreciation stating that it would redistribute the concentration of the recovery away from a reliance on consumption to one that benefits from exporting its way out of trouble. While this comment is entirely true it is at odds with his recent irritation with reporting of a September comment with the Newcastle Journal. At that time he said that weaker sterling would benefit the pound, but the slew of hacking at his comments after came across as that Mr. King advocated a weaker pound. To us, this muddies the waters.


Andrew Wilkinson                                                                    

Senior Market Analyst                                                               ibanalyst@interactivebrokers.com       


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