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Defensive Currencies are Your Best Friend

Monday, 13 October 2008 11:54:44 GMT  |  David Song, Currency Analyst

The news flow in the past week has been so intense that it can be hard to keep up with all the drastic actions prompted by the escalation of the financial crisis. To our mind, it is worth highlighting the following four developments.

Weekly Bank Research Center 10-13-08

 

The Great Monetary Easing

Stephen Roach, Head Economist, Morgan Stanley

The cavalry arrives. It took somewhat longer than we thought (see Concerted Rate Cuts? September 15, 2008), but the cavalry finally arrived. In a coordinated move, seven major central banks – the Fed, the ECB, the Bank of England, the Bank of Canada, the Swiss National Bank, the Swedish Riksbank and the People’s Bank of China – cut their official target rates by 50bp today (China 27bp). The joint statement preambling each bank’s individual statement explains the cut by pointing to moderating inflationary pressures due to the decline in energy and commodity prices, diminishing inflation expectations and the augmenting downside risks to growth due to the intensification of the financial turmoil. Moreover, we see the rate cuts in Australia (100bp), Israel (50bp) and Hong Kong (100bp) over the past two days as part of this global effort, as these central banks very likely received a signal beforehand.

 

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Defensive Currencies are Your Best Friend

Niels-Henrik Bjørn Sørensen, Senior Analyst, Danske Bank

The news flow in the past week has been so intense that it can be hard to keep up with all the drastic actions prompted by the escalation of the financial crisis. To our mind, it is worth highlighting the following four developments: 1) Late on Friday the US House of Representatives approved a revised version of the USD 700bn rescue package to restore confidence in the financial sector and limit the damaging effects of the financial crisis on the real economy. 2) On Wednesday the big Western central banks and the People.s Bank of China tried to present a united front by cutting their monetary policy rates simultaneously. Other Asian central banks have subsequently followed this up with a similar action. 3) On Tuesday the UK government and the Bank of England launched a recapitalisation and liquidity package as "a necessary condition for regenerating confidence in the financial system". 4) On Monday an almost unanimous Danish Par-liament presented, together with the Danish banks, a rescue package for the Danish financial sector.

 

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Solvency Trumps Liquidity in an Uncertain Economy

E. Silvia, Ph.D. Chief Economist, Wachovia

 

Easier Federal Reserve policy this week and expected further easing ahead does provide liquidity to the capital markets. But as outlined in our global outlook, the questions on capital and solvency appear to be the driving factors in credit markets right now. Volatility in the financial markets reflects the inability to properly assess capital adequacy and counterparty risk in an environment where information on the proper price of financial assets is practically impossible to gather. Capital is much harder to come by today for even the strongest of credits and this is already having a debilitating impact on consumer spending, business fixed investment and employment. Financial markets cannot properly price assets due to the lack of transparency in complicated financial instruments. Financial instruments are difficult to value and credit quality perceptions change daily. Therefore commercial paper issuance and trading had dried up even though this paper has been among the most liquid and tradable instruments in the past.

 

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Governments Ride to the Rescue

Steve Chan, Economist, TD Bank Financial Group

Indeed, this week was dominated by national policy makers scrambling to address the global financial distress. For those trying to keep track, here is a quick recap of the latest initiatives. The U.K. government raised the public guarantees on bank deposits and introduced a bank rescue plan that included the government purchase of preferred shares in eight banks and substantial loan guarantees to stimulate interbank lending. Meanwhile, the Bank of England (BoE) doubled the amount of short-term lending available to 200 billion pounds. Ireland and Greece announced a firm guarantee of all bank deposits; while Austria, Germany, Iceland and Portugal made implicit commitments to do the same. Although a coordinated European plan failed to materialize, the heads of government in Europe agreed to a set of principles for bank rescues. Meanwhile, the German government approved a 50 billion euro bailout package for Munich-based Hypo Real Estate Holding AG. The European Central Bank (ECB) announced changes to their liquidity measures, including moving from periodic auctions to unlimited access and lowering the premium charged on emergency loans. The U.S. Federal Reserve announced the creation of a new facility that will buy 3-month commercial paper from eligible issuers to provide addition liquidity. The Government of Canada announced that it would buy $25-billion in insured mortgages from financial institutions to provide additional funds at a time that bank financing costs have climbed sharply.

 

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UK Corporate Sector Financial Surplus Bigger Than Expected

Trevor Williams, Chief Economist at Lloyds TSB Financial Markets

Last week saw the release of the annual 'Blue Book', which looks at the UK’s national accounts data. The latest release makes fascinating reading, though the publication will not be available until November. There were surprising changes in the report that have some important implications for the future, not least for the way the UK economy develops in the years ahead and copes with the economic slowdown it is now experiencing. Particularly interesting were the changes to the sectoral financial balances. The UK economy can be broken into four main sectors, household, government, company (and then financial and nonfinancial) and overseas. Savings and investment must balance, so that if one or more sector is in financial deficit (net borrowing), i.e. investing more than it is saving, it must be balanced by a surplus (net lending) in other sectors. We look in more detail below at this aspect of the report.

 

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