For the past five years, the official mantra of the US Treasury has been a “strong dollar is in our nation’s interest,” while at the same time reminding traders that “currency values should be set in a competitive marketplace based on underlying economic fundamentals.” Most traders interpret that riddle to mean the US Treasury favors an “orderly devaluation” of the dollar, and won’t intervene to support the greenback as long as its descent doesn’t turn into a nasty rout. The US dollar has lost more than a third of its value against the the Euro since 2002, and half its value against the Brazilian real. The latest blow to the “strong dollar mantra” occurred on Sept 18th, when the Bernanke Fed slashed the fed funds rate by a larger than expected 0.50% to 4.75%, knocking the US$ Index below the psychological level, and to its lowest level in 15-years. US Treasury chief Henry Paulson is focusing on booming US exports, which rose to a record $138 billion in August, up 38% from five years ago. A weaker US dollar also inflates the earnings of S&P 500 companies, which earn roughly 44% of their revenue from overseas, mostly in Euros. And Mr. Paulson, the commander and chief of the “Plunge Protection Team,” aims to offset weaker US homes prices with an inflated stock market to keep the US economy from slipping into recession.
But the Bernanke Fed’s rate cut to 4.75% also ignited double-digit price increases for agricultural and energy commodities around the globe, and lifted gold 18% higher to $765 /oz, it’s highest in 28-years. The price of West Texas Sweet crude oil has increased by $19 per barrel since Mr. Bernanke began to flood the world with cheap US dollars. Soybeans have climbed 25% to $10 per bushel. Thus, Fed rate cuts, designed to bail out Wall Street brokers and bankers translates into sharply higher food and energy costs for the US and global consumers. Foreign investors are rapidly losing faith in the Bernanke Fed and its cheap dollar policy, and dumped a net $163 billion of US securities in August, a record outflow. Net sales of long-term securities such as bonds, notes and equities hit an all-time high of $69.3 billion. Foreign central banks unloaded a net $29.7 billion of Treasury bonds in August compared with net sales of $6.9 billion in July.
Japan was a net seller of $24.8 of Treasuries, and China trimmed its holdings to $400.2 billion in August from $409 billion in July. Foreigners also sold $40.6 billion in US equities, a sharp reversal from net purchases of $21.2 billion the prior month. Foreigners are convinced that Mr. Bernanke has just begun a rate cutting campaign that can drive the dollar sharply lower, and are shifting their capital elsewhere. While foreigners have nightmares about Mr. Bernanke’s control over the US money supply, which is expanding at an explosive 14.7% annual rate for M3, its fastest in history, the Bundesbank is warning that it’s too early to write off the chance of further tightening in Euro-zone interest rates. The European Central Bank has left its repo rate on hold for the past three months, but is now telegraphing a rate hike to 4.25% sometime in the fourth quarter.
“Risks to price stability are on the upside and, I would add, that they been have augmented in early September. We will do what is necessary to counter these risks. It is too early to dismiss the need for a future monetary policy response,” warned Bundesbank chief Axel Weber on Oct 18th. “Monetary policy has to do what is necessary to guarantee price stability. In a phase of robust growth around potential with little spare capacity, monetary policy no longer needs to support the economy, but instead should focus on risks to price stability,” Weber declared. The US$’s interest rate advantage over the Euro has shrunk from +240 basis points a year ago to +37 basis points today, based on their respective six-month Libor rates. The shift in interest rates differentials in the Euro’s favor has lifted Europe’s currency from $1.260 in June 2006 to $1.430 today, a record high. The Bundesbank understands that higher food and energy prices are inflationary, and is ready to combat strong money supply growth in Europe with a tighter monetary policy, even at the expense of slowing down the local economy.
The US dollar fell to a seven year low of 1.785 Brazilian reals, after Brazil’s central bank kept its overnight Selic lending rate unchanged at 11.25% on Wednesday, pausing for the first time after 18 consecutive rate cuts. The Bank of Brazil has cut its Selic rate by 8.5% since August 2005, but has been unable to arrest the slide of the US dollar. The central bank intervenes regularly in the foreign exchange market to buy US dollars, boosting its FX reserves by $112 billion since January 2006. The Bernanke Fed’s rate cut to 4.75% ignited a big increase in global commodity prices, which can boost Brazil’s exports and its currency. The local economy grew 5.4% in the second quarter from a year earlier, and exports in the first half of this year were $73.2 billion, up 20% from the year earlier period. The Bank of Brazil left its Selic rate unchanged at 11.25% due to higher inflation, which hit 4.15% in September, just below the bank’s 4.5% upper target. The US dollar appears to be sliding in a bottomless pit in Brazil, and another round of Fed rate cuts would make Brazil’s high interest rates more attractive. Carry traders who borrow funds in Japanese yen to buy assets denominated in higher yielding currencies such as the real, have plowed money into the Bovespa Index, which is up 41% so far this year. Gary Dorsch © 2007 Gary Dorsch
|
