On a day when equity market moves were more subdued than those of the day before the main action yesterday was in the currency and bond markets. I was following the Japanese Yen because I felt that we were coming to something of a nexus for Japan’s currency intervention. In essence as I typed my article of yesterday the Yen was approaching the level against the US dollar that provoked intervention back on September 15th. Markets being what they are it was always likely that this would be tested . Indeed I hold to the argument that I have expressed before that in a type of negative-feedback loop intervention may even cause this itself as it happens too frequently to be a coincidence. And later in the day the Yen strengthened to 82.76 before weakening a little back to 83, however this morning it has strengthened again to 82.59. The markets are plainly testing the Bank of Japan’s resolve.
So in spite of currency intervention followed by promises of more monetary easing measures the US dollar continues to decline against the Yen. The ruling party in Japan the DPJ has even suggested a fiscal stimulus of some 58 billion US dollars in what seems a last throw of the dice. However before that is even implemented I notice that the Vice Finance Minister Fumihiko Igarashi has said this today according to Bloomberg.
“It’s not our intention to engage in a currency devaluation race for the sake of the national interest,” Igarashi said in an interview in Tokyo today. “We could conduct smoothing operations when movements are extremely volatile, that would be permissible.”
Many will be wondering how this squares with “appropriate action”. My experience of dealing with the Japanese leads me to believe that because of the importance of face in Japanese culture if we were getting a change in policy it would come from a relatively minor operative,so in effect many will be wondering if the Vice Finance Minister is taking a bullet for the team.
US dollar weakness continues
The other side of this equation is US dollar weakness. Against the major currencies this has been evident since early June when the dollar trade weighted index was above 88. As I type this it has fallen to 77.1 for a devaluation of some 12%. My contention is that a lot of the weakness has been caused by expectations of further monetary easing in the US as speculation increases that she will set sail in the good ship QE2.Indeed the speech that I quoted from yesterday from Chicago Fed. President Charles Evans seemed in favour of inflation targeting and some even think that the Fed may be considering a form of price targeting which would be an even more extreme move as if you think about it the recession has caused prices to be lower than they otherwise would be so price targeting would lead to the Fed. aiming to catch-up lost ground. Frankly such talk can only be bad for the US dollar.
If you look at recent US economic figures they do not justify at all to my mind the sudden speculation about QE2 and indeed other extreme monetary stimulus measures that are being discussed. For example recent house price reports and the ISM index showed signs of an economy growing slowly rather than the collapse that all this speculation implies. Weekly jobless claims have improved a little from the figures of a month or so ago. So my contention is that current speeches by members of the Federal Reserve are having exactly the opposite effect of what they should be doing. I felt that in 2008 they panicked and it looks like they may be about to again.
Of course we get more information from tomorrow’s jobs report in the US nad yet again all eyes will be on it.
The Strength of the Euro
One factor often ignored recently has been that the Euro has strengthened quite considerably. Against the US dollar it is now challenging the 1.40 level and it has even strengthened recently against the Yen to 115.2. This is quite different from the dog days in May/June when it fell below 1.20 versus the US dollar. The European Central Bank calculates a daily nominal exchange rate with 100 as a benchmark from 1999 and conveniently it fell to 100 in the recent crisis,whereas it has now risen to 105.6. It is important to note that for most of this period the Euro was falling against a strong Yen and it is only in the last fortnight or so it has risen against the Yen and given the Bank of Japan some relief.
The Effect of this on the Euro zone Peripherals, Ireland, Portugal and Greece
This recent rally in the Euro must be having an effect on competitiveness and when we remember that these countries already had competitiveness problems then this can only exacerbate them. The ECB calculates a competitiveness index which adds unit labour costs to the exchange rate, which uses 100 in 1999 as a base. As ever the benchmark for good behaviour is the German economic locomotive which has improved to 88.8. By contrast Ireland is at 118.7, Greece at 108.8 and Spain at 111.6 with for some reason no figures at all for Portugal. Now these figures are behind the times as they only allow for the first quarter of this year but they have turned out to be a signal for problems have they not? If so then eyes one day will turn to Slovakia which is at a heady 173.8.
Ireland and her downgrades
The rating agencies have queued up this week to offer downgrades to Ireland in a version of kicking a man when he is down. Moodys got in first with threats of a downgrade and Fitch followed up by reducing Ireland’s credit rating from AA- to A+ and gave it a negative outlook. I have written before that ratings agencies have lost most of their credibility and considering what they were previously willing to badge as AAA a move from AA- to A+ can safely be filed under the heading of spurious accuracy.
Unfortunately for Ireland these reports do make investors focus again on her grim outlook. In addition to the previous problems I have looked at there now appear to be discrepancies at her credit unions. The Irish financial regulator Matthew Elderfield has warned that the State’s credit unions are systemically underprovisioning against loan losses. He said that the regulator had discovered credit unions were underprovisioning by 40 per cent and that he intended on dealing with this problem. Just to give you an idea of the importance of Irish credit unions they have total assets of 13.9 billion Euros. This has echoes of the issues at Spanish cajas, her equivalent of savings banks.
One impact these downgrades do have is on investment funds some of which have explicit limits on what grade of bond they can invest in and Ireland is getting near to a threshold here. So it is no great surprise that Irish government bond yields have been rising again this week after the ECB inspired reductions of last week. As of last nights close the ten-year yielded 6.44% and the barrier where it would be cheaper to borrow from the Euro zones shock and awe fund has crept back to 2014 as her benchmark 2014 bond now yields 4.99%.
Unfortunately the situation for Ireland is continuing to deteriorate.
Greece and her Economic Statistics
The issue of Greece and her economic statistics never seems to go away. I have also been questioning some of the positive news coming out of Greece on her deficit as it does not appear to square with her retails sales figures which have been poor. I have also previously pointed out that her new tax amnesty was not going to help her in the longer-term and questioned whether the EU/ECB/IMF troika could continue to keep publicly supporting this in my article of the 1st October.
There is a plain moral hazard here just at the time that Greece needs her people’s support for her austerity plan. The supervising bodies, the EU/IMF and ECB have so far supported Greece in her austerity plans but I cannot see how even the most rose-tinted spectacles I can think of can possibly support this. Also it reminds me that in spite of her tax increases, Greek tax revenue continues to struggle which implies that her economy is struggling more than has been officially reported a matter I have discussed often.
Well this week we have this from the EU Commission looking into the subject of her numbers from 2006 to 2009.
“The Greek deficit and debt figures will be revised upwards, the figures will be bigger……..after the latest visit, it was evident that some areas of uncertainty remain…
The Greek newspaper Kathimerini has published the following figures.
A senior Greek government source said on Tuesday that Greece’s 2009 budget will be revised to 15.1 percent of gross domestic product by EU statisticians, from 13.8 percent previously. This would push Greece’s budget gap past that of Ireland, which had the biggest shortfall in the EU last year.The changes will also mean that Greek debt will rise to 127 percent of GDP from 115.4 percent of GDP previously, the source added.
Rather oddly in the face of continuing bad news Greek government bond yields have been falling recently. The ten-year yield has for example dipped below the threshold of a 10% interest rate. Perhaps the Chinese are buying or the ECB. Of course with government bond yields falling elsewhere then Greek yields do look relatively attractive,but that means assuming there will be no restructuring of her debt and to my mind a restructuring looks ever more likely not less.
US Government Bond Yields
These continue to fall. The two-year now yields 0.37%, the five-year yields 1.15% and the ten-year 2.37%. In the orgy of speculation and FOMC front-running that is pushing prices higher and yields lower I have a thought for you. Should the FOMC introduce its mooted plan for price-level targeting then it would need to raise price levels by around 8%. Now if you factor that back into those nominal yields……
I am reminded of the exchange in the film Snatch between Turkish and his assistant about what potentially happens to the Hare in Hare Coursing but run much too polite a blog to quote the actual words.