Quantitative easing is underway in Britain. Rising equity markets are weighing on the dollar. G20 gives the impression of useful agreement.
A nervous start to the week began with the evaporation of support at $1.40. Having paused at $1.3750 on the way down sterling eventually touched below $1.37 on Wednesday morning before beginning a rebound. By the end of Friday it had climbed as high as $1.40 and it built on its recovery early this morning, opening in London at $1.4150.
Sterling was handicapped for most of the week by investors’ nervousness about the much-trumpeted “quantitative easing” that is supposed to restore liquidity to the retail end of the financial system. The Bank of England intends to buy £75 billion of gilts in the next three months with the first £2 billion tranche going out last Wednesday. That first “Asset Purchase Facility gilt purchase operation” received guarded approval from the media but investors were twitchy about how well the reverse auction would go and were still twitchy afterwards because only banks were seen to have taken part. Pension funds and other institutions either decided not to take the risk or simply did not want the money.
As to the effectiveness of the programme, the jury is still out and will not be coming in anytime soon. Sceptics believe falling deposit rates and rising loan rates prove that commercial banks are following an agenda different from that of the government and the Bank. An attendant fear is that the government could be tempted to monetise its debt, leaving the purchased gilts on the central bank’s books until maturity and thus, in all but the literal sense, printing money.
Economic data from the UK did not particularly help matters for sterling. The two key figures released last week showed an acceleration in the slowdown of industrial production and a widening of the trade deficit.
While the British deficit rises the shortfall in the United States continues to shrink. A large part of the improvement is the result of sharply cheaper energy: nearly two thirds of US oil is imported. Imports and exports were both down, with imports falling more quickly as a result of America’s leading position in the recession process. Consumer demand remains weak, as evidenced by lower retail sales in February. The University of Michigan’s survey of consumer sentiment demonstrated why: confidence remains close to its lowest post-war level.
The G20 finance ministers’ meeting in Horsham was a qualified success. With that many participants it was never likely to deliver a huge breakthrough but it could have created mischief for the global economy if participants had been seen to squabble. Some cynics have dismissed the communiquÃ© as a list of platitudes, including as it did a bit of self-congratulation, a bit of commitment and a bit of coordination. But perhaps the most heartening part was the frequent use of the word “we” and the absence of any allusion to disagreement among the 20. It does not guarantee the emergence of global financial harmony when the leaders meet next month in Beckton but it does at least provide a stable platform upon which they might be able to build.
The most hopeful message came – surprisingly – from Federal Reserve Chairman Ben Bernanke. He told a CBS interviewer that “I do, I do see green shoots [of economic recovery]”. Those who remember Tory chancellor Norman Lamont prematurely using similar words in 1992 may raise an eyebrow but Mr Bernanke’s sentiment seemed honest. Let’s hope his optimism is not misplaced.
Equity investors certainly seem to have regained some of their optimism. Last week’s stock market rally was the main reason for the dollar’s retreat. The security of the dollar and the Swiss franc is less of an attraction when folk are less nervous. Sterling took time to leverage the increased risk appetite but started this morning looking perky. Its potential obstacle this week will be Wednesday’s employment data but it will also continue to respond to general nervousness about the economy and the banks.
Sterling appears to have turned another corner. Buyers of the dollar should hedge their exposure, fixing a price for half of whatever they need and leaving the remainder uncovered in anticipation of better levels in the future. Those of an optimistic bent may consider under-hedging now that a rebound is under way. Use a stop order to protect the downside in case of unexpected alarms.
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