IB FX View

The goose that laid the golden egg

Thursday June 4, 2009

For three long weeks Britain’s right-wing Daily Telegraph has been cataloguing political expense claims. The story already cost the speaker of the House of Commons his job in an unprecedented move. Today the paper claims that a sizable number of Prime Minister Gordon Brown’s own party have signed a letter calling for him to resign. If anybody can tell us of a time when political change in Britain didn’t lead to better economic fortunes, we’d like to know! Today the pound sank on the news, presumably on fears for political risk, but one has to question market logic. Wouldn’t a change in a weak government be a good thing? The pound, which traded at $1.6665 earlier in the week slid to $1.6087 according to our data. Talk about killing the goose that laid the golden egg.


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Since it’s Thursday, it must be central bank activity day. The ECB, Bank of England, the Bank of Canada all met – not together – but in their own ivory towers. We note that the Danish, Icelandic and Russian central banks all eased monetary policy earlier today. We’ve made reference recently to various bits and pieces from central bankers whose views seem at odds with those of day-to-day investors buying into a growing recovery theme.

The latest of which is to be found out of the Bank of Canada today, where the central bank warned that the rapid appreciation of the local dollar against the American dollar stands to offset improvements in more favorable financial market conditions of late. Such a move would probably harm consumer confidence and could feasibly prolong recession. The Bank kept interest rates at 0.25% today having announced that move in April with the governor noting at that time that policy would lay low through June 2010. There would likely be no further unconventional moves to ease policy along quantitative lines. This mantra coupled with the recent volley of commodity price gains, on which the economy is reliant, has enhanced the appeal of Canada’s dollar.

On Wednesday, Fed chairman Ben Bernanke rattled his saber somewhat when he seemed to acknowledge that rising joblessness could spawn further consumer-led economic weakness should financial market improvements relapse. The chairman seems to recognize that collective central bank measures have pulled the global economy back from the brink of collapse but it’s too early to send an all clear signal.

Meanwhile at the ECB’s meeting today, president of the board, Jean Claude Trichet told reporters that he sees signs that the worst is over for European recession, but that rates could go lower than the current 1% level. He outlined the bank’s plan to buy up to €60 billion in covered bonds with a minimum BBB rating between now and this time next year.

Such optimism helped lift the euro versus the dollar a tiny bit today, but not before a bearish assault on the euro ahead of the meeting to as low as $1.4071. Recent signs of improvement across the Eurozone include the ease in the contraction of service and manufacturing sectors, which is currently a global phenomenon. Latest investor confidence readings for April are at six month highs, while German business sentiment rose for a second month in May. For choice investors seem to want to hold the euro creating a floor at around $1.40 currently.

But in his appearance in front of Congress yesterday, Mr. Bernanke did undermine some of the recently cited rationale for ditching the dollar. In addressing the prospects for inflation, he noted that a capacity surplus was likely to feature for the U.S. economy for some time. As a result of likely continuing job losses he sees capacity slack maintaining downward pressure on inflationary forces. Investors have recently sold dollars as they lose appetite for safe havens. But they have also used the excuse that the rising budget deficit is potentially inflationary. That’s something that Mr. Bernanke clearly disputes as he airs his views and presumably something he wouldn’t want to have been party to creating as the treasury and Federal Reserve collaborated to ease the financial crisis.

So we’re seeing a little more buoyancy in the value of the dollar, which today rallied against the Japanese yen where it buys 96.34. Earlier the Japanese Ministry of Finance highlighted domestic investors’ appetite for holding bonds issued in foreign currencies in data showing a net outflow of $10.2 billion into such bonds. It would appear that Japanese investors feel more confident about a growing recovery too.

Andrew Wilkinson

Senior Market Analyst ibanalyst@interactivebrokers.com

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