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Foreign Exchange

FX research roundup: Post QE blues

It has been a few months since US non-farm payrolls were dismissed as pretty much a non-event; the market remains utterly focussed on QE, its effects and repercussions.


This last roll of the dice understandably hasn’t gone down well; particularly as there is an implicit attention to roll again (QE3 and QE4 anyone?) if a double-six doesn’t result. Brazil, China and Germany have weighed in, making Commerzbanks’s headline this morning “Worldwide criticism of US monetary policy” not much of an exaggeration at all. Commerzbank makes the point that while such expansionary monetary policy should [will, can only?] lead to depreciation, the inflationary aspect might be more questionable: “That means: the effect on the real dollar exchange rate is clearly there. At the ministerial G20 meeting US Treasury secretary Timothy Geithner was able to turn the criticism of the US monetary policy into a criticism of countries with current account surpluses. This tactic is unlikely to convince at the G20 summit. Geithner can hardly be surprised if the US rather than China will soon stand accused of being a currency manipulator.”


So it looks like the US is likely to be rather no-mates in Seoul, with the exception of those with mutual interests, the UK and perhaps Japan. The UK decided to keep its powder dry close to Guy Fawkes night, but the fuse is still there to be lit. Meanwhile, Japan’s measures in the early BoJ meeting, while radical (broadening asset purchases to include ETFs and Reits) didn’t come under the heading of further easing. Japan also reserves the right to act again. As Derek Halpenny at Bank of Tokyo mentions: “...probably the most interesting comment from [BoJ governor] Shirakawa was acknowledging that ‘fund expansion is a probable option’.”


The overall feeling is that the Fed will continue to flood the market with liquidity until either the economy bursts into life or becomes the 21st century version of the Weimar Republic. Though the immediate inflationary consequences of QE are still largely invisible, it can’t be denied that the market is worried. As Michael Derks at FXPro points out: “Within 24 hours of the FOMC’s statement, the US 10/30-year spread widened by a further 28bp to 158bp, the largest spread since the long bond was first issued.”


Neil Mellor at Bank of New York Mellon as ever sums it up precisely. This morning’s headline is “Quantitative easing is art, not science – a fact that casts doubt on the Fed’s ability to bring it to an end in a timely fashion”.


Mellor questions Bernanke’s own belief in the likely success of the monetary expansion and the ability of the administration to unwind policy in appropriate time. He points out the dependence on a hitherto non-existent money multiplier and the lack of clarity on the precise extent of “unworkable” loans that exist in the US. But it is Mellor’s final paragraph that resonates most and deserves quoting in full:

“If quantitative easing does succeed in generating inflation, however, it is then that the Treasury’s problems begin as they will be forced to underpin the recovery whilst keeping a cap on its financing costs in the face of higher yields. That is another story; but what appears all too clear is that the world has taken a lurch towards broad-based capital controls and protectionism as one certain destination for a portion of the Fed’s cash is foreign high yielding markets. Ironically, therefore, the FOMC’s decision to launch QE II has placed greater emphasis on the need for actionable agreement at the G20 whilst at the same time, it has moved that very objective even further beyond the reach of the group’s members.”


It does all seem like a terrible mess, and that’s without mentioning the potential US policy logjam we may witness over the next two years. This week did look like a big one; it has been interesting but not massive in the way of market moves but I fear it has been catastrophic for the future of the global economy.


I’m determined, however, to end on an up note. Despite continuing pressure on Irish spreads, the common belief is that the euro won’t feel the pressure until Spain gets hit in a meaningful fashion. So it was with trepidation that I began to read the following email: “Run on BBVA?... Some concern on reports of people queuing outside branches of BBVA in Madrid. EUR very soft. Real reason though is BBVA is sponsoring a 10km running race in Madrid on Sunday. Participants are queuing to collect their tee-shirts. Ha!”

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