Will The US Intervene In The Currency Markets?

Yesterday I posted an article saying to watch out for Bernanke’s speech as that was likely to support the US dollar. Indeed, the dollar surged strongly against major currencies such as the Euro and Swiss franc after Bernanke unexpectedly revealed some optimism in his speech. He said the economic outlook has improved from a month ago and pledged that central bankers will fight any increase in inflation expectations. “The risk that the economy has entered a substantial downturn appears to have diminished over the past month or so,” he said.

Frankly, no one really expected him to say that about the current state of the US economy as he has always emphasized that there are great downside risks to the economy (he still does). The US dollar also has gotten a second round of renewed support from US Treasury Secretary Paulson who said yesterday and repeated today that he does not rule out currency intervention, saying that “I never like to say never”.

For so long, the financial markets haven’t been reminded about the topic of currency market intervention because nothing much about it was said by high-ranking policymakers. And now, Paulson’s assertions of “I never like to say never” are bringing more power to Bernanke and Bush’s words that they would like to see a strong dollar. Paulson also said that economic fundamentals are sound and “those long-term fundamentals are going to be reflected in our currency value”.

While I don’t see the Treasury intervening to buy up dollars, the collective intentions of Paulson, Bernanke and Bush are very clear: They would like to see a stronger dollar. There is now an increased likelihood of currency traders closing their short USD positions, and for the USD to appreciate higher in the near to medium-term.

More USD-Supportive Comments

Dallas Fed’s Fisher said inflation must be controlled, and he would rather risk weaker growth for some time if that helps keep inflation expectations under control. He said the Fed drew the rate cut line at 2% but he would have done it at a much higher level. He expects the US economy to be sluggish for a period. Retiring Fed’s Mishkin also talked about inflation risks, saying that inflation expectations are important for policy.

US Trade Gap Widens

The US trade deficit widened in April by 7.8% to $60.9 billion, more than the $60 billion gap predicted, making it the widest gap since March 2007. Imports rose to a record $216.4 billion as prices of imported petroleum surged ($96.81 a barrel) and the total amount of fuel bought rose to another record too. Exports also rose the most since February 2004, to a record $155.5 billion, due to demand for commercial aircraft, autos and agricultural machinery.

We could expect to see a further widening of the deficit in the coming months as oil prices rise even though exports continue to do very well. The weaker dollar is no longer as important a trump card for the US as its benefits are beginning to be outweighed by the inversely correlated rise in oil prices. No wonder Bernanke & Co are beginning to show signs of concern for the currency.

Forex Trading

EUR/USD fell nearly 200 pips to a low of 1.5460. Potential bear targets are 1.5430, 1.5400, 1.5360-70. USD/CHF’s nearest resistance is 1.0420-30 and Swiss bulls may target 1.0500 in the near-term. The British pound fell sharply against the US dollar today as the RICS report showed that house sales in the UK fell to a 30-year low in May. GBP/USD fell more than 200 pips to an intraday low of 1.9530, close to erasing the gains made from the past three days.

Wednesday:

UK trade balance, claimant count 0830 GMT

US MBA mortgage applications 1100 GMT

Canada new house price index 1230 GMT

Fed’s Kohn speaks on inflation 1530 GMT

US Fed’s Beige Book 1800 GMT

Posted in Categories: Canada, Economy, Eurozone, Forex, Switzerland, UK, USA.

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Comment by Campo

2008-06-10 16:46:59

It’s not good that the trade deficit has increased but at least excluding petroleum imports, it’s essentially unchanged.

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