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As Egypt Worries Spark Safe-Haven Bids
NEW YORK (Dow Jones)–The euro weakened broadly and sharply Friday as concerns about political unrest in Egypt sparked demand for safe-haven currencies such as the dollar, Swiss franc and euro.
After having spent most of the week ignoring the crisis in Egypt, traders became transfixed by images of pro-democracy demonstrators embroiled in street protests with government forces. This led investors to abandon risk-related investments in favor of safe-harbor assets amid worries about the potential for spillover effects worldwide.
With the euro already under pressure from constructive U.S. economic data, the figures coalesced with the market’s jitters about Egypt. Despite concerns about the U.S.’s fiscal imbalance, both Treasurys and the dollar rallied as they momentarily reverted to their traditional role as safe harbors during times of global instability.
“We’re going to watch over the weekend to see how aflame [Egypt] becomes,” said Andrew B. Busch, global currency strategist at BMO Capital Markets in Chicago, who said markets were modestly heartened by the data. However: “risk-off is happening because once you destabilize Egypt, you destabilize the Israel peace process and embolden Iran,” he added.
“Risk off” trades typically bolster the dollar, U.S. Treasurys, the Swiss franc and other assets perceived as safe havens.
The euro fell to session lows around $1.3594, more than a full cent below an earlier session high. The euro fell by more than 2% against the yen to trade at 111.63. Against the yen, the dollar was also sharply weaker on the day, trading near 82. Against the Swiss franc, the euro traded near 1.2820.
Speaking from Davos, German Chancellor Angela Merkel launched a strong defense of the euro, saying it was “more than a currency” and its failure would doom Europe. However, jittery markets largely ignored her remarks. Dealers said the market was becoming increasingly impatient with the lack of progress in Europe’s debt crisis.
“There has been very little resolution on the debt front, and in fact there has been more tension,” said John McCarthy, manager of currency trading at ING Capital Markets in New York.
“We’re getting to a level in euro/dollar where, based on concerns about European peripheral debt issue that have not gone away,” traders are becoming increasingly reluctant to take the single currency much higher, he added.
Dealers say the yen has been buoyed by both exporter demand for the currency and modest safe-haven flows. At least for the moment, analysts say concerns about Thursday’s Japanese sovereign debt downgrade by Standard & Poor’s have abated.
“Japan and their huge exporting companies have clearly become accustomed to the strong yen and are clearly taking every chance they get to buy in when there is a selloff,” said Western Union Business Solutions in a research note. “Even with the credit downgrade, investors don’t seem too worried about piling their cash into the Land of the Rising Sun and still see it as a bastion of safety.”
-By Javier E. David, Dow Jones Newswires; 212-416-4564; email@example.com
January 13, 2011
By Martin Hutchinson, Contributing Editor, Money Morning
While prices for food and energy have been rising, inflation in the United States has remained relatively subdued.
One common explanation for that phenomenon is that U.S. inflation has been “exported” to China and elsewhere through the U.S. Federal Reserve’s monetary policy. And given the perennial U.S. balance of payments deficit, it’s good to know the country has found something it can successfully export!
However, the bad news here is that inflation does not stay exported – and in 2011 it may boomerang back to make life on Main Street miserable.
Thankfully, there are precautions we can take to combat higher prices and preserve our wealth.
U.S. monetary policy has involved excessive money creation since 1995, fueling asset bubble after asset bubble. However, it has not produced inflation in the United States because the dollar is a reserve currency, so excess dollars flow to countries whose economies are more vulnerable to inflationary pressures.
In the 1990s, the excess dollars flowed to Argentina, whose currency was pegged to the dollar. The imported inflation wrecked Argentina’s sound policies of that decade and contributed to a debt-fueled collapse in 2001. Since 2008, the excess money has gone to China, India, Brazil and other fast-growing emerging markets. It also has fueled a massive growth in foreign exchange reserves among the world’s central banks. Central bank holdings of forex reserve have grown more than 16% per annum since 1998.
China, India, and Brazil all currently have massive inflation problems. China, which has increased its inflation by holding down its currency against the dollar, has been very proactive in tackling inflation as of late. The People’s Bank of China (PBOC) surprised the markets on Christmas Day by raising its one-year refinancing rate by 52 basis points to 3.85% and increasing the benchmark deposit rate by 25 basis points to 2.75%.
The PBOC has increased bank reserve requirements five times in the past year and raised interest rates twice – albeit by a scant 0.25% each time.
China’s official inflation rate currently is 5.1%, up from 1.5% at the beginning of 2010, but its figures are suspect. The PBOC probably will have to raise its benchmark rate several more times from its current level of 5.81% before it’s able to bring inflation under control.
India’s inflation is about 7.5%, but is expected to rise further since food prices are surging at double-digit rates. Prices for onions, for instance, are up 33% from last year. The Reserve Bank of India (RBI) is again raising interest rates, now at 6.25%. But, as in China, sloppiness in official inflation statistics means Indian interest rates are negative in real terms and the RBI will have to continue raising rates if it wants to control inflation.
Brazilian inflation was 5.91% in December and is rising fast. Newly elected President Dilma Rousseff fired the central bank chief and is trying to bring interest rates down from their current level of 10.75%. Again, inflation seems likely to surge in the near term.
To complete the BRIC (Brazil, Russia, India, and China) picture, Russian inflation is currently running at 8.8%. That’s down from a year ago, but still much higher than the Russian government would like it to be.
With inflation rising in all four BRIC countries and many other emerging markets, the U.S. holiday from inflation cannot last much longer. The Fed’s second round of quantitative easing (QE2), which included purchases of $600 billion in Treasury bonds before July, and the December package of tax cuts are also fueling inflationary forces.
Money growth, which had been low in 2009 after the burst in late 2008, has once again risen to worrying levels. Over the last four months, the average growth rates of broad money on the Federal Reserve Bank of St. Louis’ Money of Zero Maturity and M2 Money Stock measures were up 10% and 7%, respectively. That’s comparable to their growth in the 1970s.
Furthermore, oil prices are approaching $100 per barrel, and other commodity prices are strong, as well. So however successful the Fed has been in exporting inflation since 2008, its success won’t last for much longer. At some point in 2011, inflation will be re-imported – and probably with a roar rather than a whisper.
When that happens, the Fed will have to raise interest rates to fight rising prices. Of course, Federal Reserve Chairman Ben Bernanke will almost certainly resist this inevitability, fudging figures and producing spurious arguments to avoid making the right decision. When the Fed does eventually raise rates, it will do so grudgingly – as it did during the period from 2004 to 2007.
That means higher short-term interest rates probably won’t arrive until 2012, and higher long-term rates could potentially be delayed by more quantitative easing. The result will be an unholy mess that takes the form of surging inflation in 2011 and a second recessionary “dip” in 2012.
Gold and other commodities will continue to offer protection against the surge in inflation in 2011, as they have in the last few years. At some point, though, the market will start to anticipate tighter Fed policy and gold and other commodities prices will collapse.
Still, in 1979-80, gold and commodities prices went on rising for more than three months following then-Federal Reserve Chairman Paul Volcker’s famous 1979 “October surprise,” in which he pushed up the Federal Funds rate by two full percentage points over a weekend.
If the gold and commodities markets didn’t believe the obviously serious Volcker would stop inflation until several months after he took decisive action, they certainly won’t have confidence in the actions taken by a reticent Ben Bernanke. So your gold and commodities investments will probably be pretty safe even if the Fed does eventually start raising rates. Certainly they are a good bet for now. More importantly, they will protect you against the pending surge in inflation.