Having taken a look yesterday at possible trends for longer-term interest-rates today I will today consider not only what has happened in 2010 for exchange rates but what this may tell us for 2011. Before I leave the subject entirely I would just like to point out that even in this close season for activity US government bond prices and hence their yields have been fairly volatile. One poor auction was followed by a better one and then just to add to the mix the Case-Shiller house price index (20 cities) gave a disappointing picture for the state of the US housing market. Whilst the housing market information only brings us to October if we add to it events since then it is likely that the decline continued. In an example of a reverse feedback loop the recent rise in mortgage rates caused by the rise in longer-term interest rates will have added to these worries and led to a fall in US government bond yields when the news was announced!
The US dollar
We saw in 2010 a lot of talk about the US dollar and discussion of whether it was a tool of US economic policy. Before I address this there was one exchange rate which was disscussed a lot but mostly in connection with the state of the other side of the exchange rate the Euro zone. For all the furore which surrounded this particular exchange rate it began the year at 1.45 and ended at 1.32. Hardly seems worth all the fuss does it? I am being slightly disingenuous as it did fall to 1.19 at one point but the underlying point of in the context of events remains true, if you consider the problems of the Euro Zone the movement versus the US dollar in 2010 was relatively minor.
The US dollar is particularly important as a currency as most commodities are priced in it and accordingly for everyone else their inflation rate is influenced by their currencies exchange rate versus the US dollar. If we look at an overall pattern during 2010 and use the dollar index ( an effective or trade-weighted exchange rate) we see again actually little overall movement as it entered 2010 at around 78 and is now at 79.8. But care is needed here as the movement of the US dollar was involved in the so-called”currency wars” of late 2010. The dollar index surged to 88.71 in early June and then fell to below 76 in early November leading many to suspect that this was a deliberate economic policy by the US government. The fall was rather sharp and did come at a time when the US economy appeared to be slowing. Since then we have seen a small rally but over the past couple of days it has weakened again.
So as 2011 approaches we await to see if the US dollar will export inflation or deflation to the rest of the world via its exchange rate. The weak US dollar of late 2010 will have offset to some extent rising commodity prices for the parts of the world which do not have it as their currency but we wait to see the next move. The next two countries I will discuss have definitely imported some deflation in 2010 and the year is ending with another apparent rush towards them.
The Currency Twins: The Swissy and the Yen
From the point of view of an Englishman (me) the way that these currencies have traded in recent times always requires a moments thought as of course most currency crises in the UK have been due to a weak currency not a strong one! When I was an undergraduate student I misinterpreted the Japanese accent of one of my lecturers and recorded falling when he meant foreign in error, however as I (rather miserably) was about to correct a whole year’s notes I realised that we were discussing the sterling exchange-rate which had indeed fallen in a get out of jail card type of way.
However both of these countries have had very strong exchange rates which will have had deflationary effects on their respective economies in 2010 and the way the year is ending these influences seem as strong as ever. For those looking for a background as to why this has taken place I wrote an article on this subject back on the 31st of August and for those with the time or inclination to really go back to the fundamental issues I discussed the issues for places like Hungary and Eastern Europe on the 10th of June and the 15th of July.
The Japanese Yen
If we look at the exchange rate versus the US dollar we see that it started the year at just over 93 Yen and is now approximately 81.5 Yen for a rise in the Yen of around 12%. In fact the main rise has come since early May when the exchange rate just failed to touch 95. So we have a disinflationary effect via the impact on commodities priced in dollars and also a deflationary effect on the output of the Japanese economy. If we look back in time the problem just gets more pronounced as the exchange rate was 110 in August 2008 and 123.5 back in June 2007.Ouch
If we look at the pattern versus the Euro we see an even more pronounced rise for the Yen. At the start of 2010 one Euro bought 133 Yen whereas now it only buys around 108 for a fall of 19% for the Euro.Again we see a deflationary effect. The pattern against the pound is different as whilst we have fallen from 250 Yen to the pound in July 2007 to 126 now we had a lot of our fall back when the pound devalued generally in 2008 and we lost around 37% against the Yen in 2008.
When you look at it like this the continued ability of Japan’s exporters to survive and prosper has been quite an achievement but her inability to escape her current period of disinflation or falling prices has been contributed too by Yen strength.
The Swiss Franc
The Swissy has hit highs for 2010 versus both the US dollar and the Euro in the last 24 hours. The Swiss National Bank calculates monthly averages for its exchange rates and back in December 2009 they were 1.5025 versus the Euro and 1.0283 versus the US dollar. Whereas todays fixings were at 1.2433 and 0.9385 respectively. So we can see that Swiss exporters will be finding that it is ever harder to export as their currency becomes ever more competitive and that the Swiss economy will be subject to disinflationary influences as it rises against the US dollar and deflationary influences as it falls more generally.
Whilst there are plainly issues for Switzerland from this and for her domestic economy as well as issues for her central bank there are wider ones for Europe. One of the features of the environment in the early part of the last decade was the way that many consumers and businesses borrowed in Swiss Francs in Eastern Europe. This was particularly pronounced in Hungary. Now let me give you the monthly averages for the Swiss Franc/Hungarian Forint exchange rate in 2010: 184.5,184.6,186.2,185.6,193.6,216.7,209.7,222.4,208.2,219 and add today’s exchange rate of 222.4. So the monthly average for January 2010 was some 20.5% lower than today’s which if that was your mortgage debt is a rather uncomfortable calculation to have to make. The reading will be nearly as uncomfortable in the boardrooms of the banks (mostly Austrian and Scandinavian) who made the loans as the fear of some form of mass default must be rising.