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On FX
The FX market has gotten boring. The intra day moves are smaller and
there is not much real direction that I can see. To get the money flows
moving again we need a crisis. There is no crisis in our headlines. So
FX traders go to the South of France or the Hamptons. They will be back
in a month or so and so will the next crisis.
I try to stay away from FX markets when I don’t have a strong conviction
of where the next 5% move will come from. I also try to stay away from
FX when the markets have moved 10% in a short period of time.
I’m not sure what the next 5% move for the EUR/DLR will be. We could
drift back up over 1.30 or some of the old fire will come back and we
could get a move lower to 1.20. For me it’s not a question of who looks
better. It is a question of who looks worse. If I had to roll the dice
right now I would say that the US could very well win the UGLY
competition between now and year end. In spite of the big bounce off of
the lows a month ago the market is still overbought dollars. The
natural position is short, so we are in an interesting position.
Should a weaker dollar trend emerge the Fed would be delighted. They
want inflation so bad they would cheer any source. Charles Engle who
works for the Dallas Fed wrote a paper "Exchange Rate Policies"
last November that I think represents the broader thinking of the Fed
Governors. The full link is here.
Some cut and pastes:
A
debate has continued over many years on the desirable degree of foreign
exchange rate flexibility. One side of the debate has made the case that
the exchange rate should be freely determined by market forces. This
argument takes the stance that the market can best determine the
appropriate level of the exchange rate.From the standpoint of modern macroeconomics, particularly from the view
of New Keynesian economics, that stance is potentially
self-contradictory.
Oh boy! First, what exactly is New Keynesian economics? I think this is
“Inflate at all cost!” But I am not sure. Essential what is being
advocated is a managed exchange rate regime. That’s interesting. Isn’t
that what we have been beating the Chinese up over? It must be
different.
What is
clear is that the proponents of this believe that floating exchange
rates will eliminate large current account deficits or surpluses.However, there is very little empirical support for this notion.
He has a point with this. The US has been wracking up current account
deficits for three decades. There is nothing in the current FX market
that is going to change this. To achieve a turnaround in the US current
account would take years. It would also take an exchange rate that was
50% lower than where it is today.
Macroeconomic theory does not support the claim
that a policy that allows a fully flexible exchange rate with complete
hands-off by policymakers will deliver an efficient market outcome.
I think this is the New Keynesian thing. It is a strong argument that
what we are doing and what we have been doing is not
supported by the facts. Interesting that we have been doing “this” since
1971.
An
exchange rate or a currency is misaligned when the exchange rate change
has led relative prices internationally to deviate from the efficient
levels that represent underlying costs. External balance means the
currency is not misaligned. This is a notion of external balance that is
not arbitrary and simply assumed, but rooted in economic logic.
Read this to mean that the US dollar is overvalued. The imbalances prove
that. Important point.
The
renminbi cannot be efficiently priced against both the dollar and the
euro when the dollar is out of line with the euro. So the amount of
trade between the U.S. and Europe is not a sufficient statistic to
capture the possible losses from a misaligned dollar/euro exchange rate.
Hmmm. What is suggested is that Purchasing Power Parity with the Euro
could result in a mispriced Yuan/Dollar. Yet another good excuse for a
weak dollar versus the Euro.
To
the extent that policymakers rely on sterilized intervention to control
exchange rates, the exchange rate policy contributes less to the
credibility of monetary policy.
There is significant
discussion of sterilized currency intervention in the paper. I kept
looking for the section about Un-sterilized intervention. There was
none. The foregoing sentence is vague on this. I read it to be saying
that FX intervention must be supportive of monetary policy. Unsterilized
FX intervention certainly would do that. The Fed would sell dollars and
buy other currencies. The end result will be that the supply of dollars
out there will be increased. The fed loves it when they can do that.
Especially when all of their other policy options have been exhausted.
Which is today.
Unperturbed free markets in foreign exchange cannot be relied upon
to arrive at exchange rate levels that deliver terms of trade and real
exchange rates that reflect the underlying economic productivity,
efficiency, and competitiveness of economies.
Well that is the end of free market economics. We have intervened in
every other aspect of our economy. Why not FX?
I think the odds of the Fed actually doing something in the market under
the current conditions are close to zero. But current conditions will
not be sustained. Something new always comes up. A new crisis will
emerge. Should things turn bad for the US I don't think the Fed will
hesitate to do whatever it can to avoid a decline in economic growth.
That includes some self-serving FX intervention. This wild card has
always made me leery trading the dollar from the long side.
Lost in this report was the following sentence. It is presented as an
“axiom”. I would disagree. It is most Un-natural for a country to borrow
purely to sustain consumption. It is a dead-end policy that will have a
very messy final chapter. But don’t doubt for a minute that this is
exactly what the Fed believes. We should spend money on our CC
because our card has no limit. Nothing could be farther from the
truth.
It is natural
for some countries to borrow to finance consumption.
»
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"To get the money flows moving again we need a crisis. There is no crisis in our headlines. So FX traders go to the South of France or the Hamptons. They will be back in a month or so and so will the next crisis."
Bruce,
There will be no crisis...off to the beach you go. Enjoy your vacation while I enjoy the low volume meltup in stocks. :)
Leo, I can think of a dozen reasons why a problem is in our future. There are so many stress cracks. A month ago we had crisis mode. This month it goes away. But it will come back. I just wish I knew what the headline will be that makes another big move in our markets.There will be this event though. I would give it six weeks on the outside. Enjoy the hot summer. It will be a hot fall too.
bk
*Sigh* The bottom line is that you just get fucked if you let your currency float while somebody else is pegging. Prisoner's dilemma anybody?
On a slight tangent, this is the kind of thinking that got Economic policy to where it is today. These pencil pushers just keep offering solutions to problems that require active intervention by government institutions. There is no thought of more intuitive, market-oriented and laissez-faire policy.
We HAD a currency that was immune to currency manipulation by others and placed a very real limit on the amount of debasement they could effect. Gold. But nooooooo, "We're governments and we need stick our dicks in eeeeeeeeverything."
Bruce, I couldn't agree with you more. That is why I see the current DXY trend staying in line for now; looking at 81.5 on the DXY by August first. However, I think that the crisis has been a long time coming, and the doelarr is already at the end of its reign. Once 81.5 hits, it will not hold for long, and the backslide will be as quick as a rey of light from star to eye; think dust. I think that by years end we will have DXY at 66-69.
The Euro may not be in much better shape, but since economics is a philosophy of comparisons, and the weight of the world is on the doelarr, the Euro will hold....for now.
New Keynesian economics is Keynesian economics with a computer.
"I will be payed in gold, Dave."
http://www.oftwominds.com/blogjuly10/deflation-hyperinflation-07-10.html
[shrug]
Interesting...
Floating currencies will never allow the true value to be revealed due to the potential for intervention and the overall inefficiancy of the markets.
What is the future for the FX trading market when all fiat currencies eventually turn to shit?
Hey Bruce,
If you were one of the "policy makers", whats the optimum inflation for the dollar from a central bank point of view?
2%, but they all want it to push 3%. It is much easier to apply the brakes then to take them off. As we see today the Fed really can't fight deflation. The history shows that when they do hit the brakes they can contain inflation.
if they want inflation so bad, why don't they take the foot off gold's neck and admit exactly what the hell is going on......and that there is actually a great deal of inflation?
seems that what they want is inflation while the world pretends that there is no inflation so they can keep gold down and JPM solvent......
something has to give......
if they want inflation so bad, why don't they take the foot off gold's neck and admit exactly what the hell is going on......and that there is actually a great deal of inflation?
seems that what they want is inflation while the world pretends that there is no inflation so they can keep gold down and JPM solvent......
something has to give......
if they want inflation so bad, why don't they take the foot off gold's neck and admit exactly what the hell is going on......and that there is actually a great deal of inflation?
seems that what they want is inflation while the world pretends that there is no inflation so they can keep gold down and JPM solvent......
something has to give......
if they want inflation so bad, why don't they take the foot off gold's neck and admit exactly what the hell is going on......and that there is actually a great deal of inflation?
seems that what they want is inflation while the world pretends that there is no inflation so they can keep gold down and JPM solvent......
something has to give......
Will that be with a side of proletariat riots, or without?
moot
"Let them eat ipaduhs." -Romer [.....smiling]