Citi’s crack FX strategist Steve Englander reacts to Bernanke’s big speech where he slammed China, and concludes that Bernanke is committed to a lower dollar. Thus: You should be a seller.
We would sell the dollar off this speech. It is hard enough stop a central bank from weakening its currency when it is cutting rates, but when it is willing to print money to do so, and feels that other countries are unjustifiably intervening it looks very much as if they see a weaker currency if not as the sole target of monetary policy, then as something that is natural, if not inevitable. The first part of the speech is a very lucid defense of QE — basically continuing the argumentation that buying long-term bonds is a natural extension of monetary policy at the short end. If textbooks and models often view the relevant interest rate as some sort of average of the long and short term rate, why shouldn’t the Fed.
Put together the two parts of the speech, the Fed says: 1) we will lower long-term rates and 2) foreign central banks are interfering via intervention with normal adjustment mechanisms. It is as unrelentingly dollar-negative as any major CB speech has been in recent years.
Read a few highlights and decide whether this sounds like a Fed retreating from quantitative easing or which is afraid of a weaker dollar:
“In sum, on its current economic trajectory the United States runs the risk of seeing millions of workers unemployed or underemployed for many years. As a society, we should find that outcome unacceptable.
What is clear is that the different cyclical positions of the advanced and emerging market economies call for different policy settings. Although the details of the outlook vary among jurisdictions, most advanced economies still need accommodative policies to continue to lay the groundwork for a strong, durable recovery. Insufficiently supportive policies in the advanced economies could undermine the recovery not only in those economies, but for the world as a whole.
…. these capital flows [to EM] have been driven by perceived return differentials that favor emerging markets, resulting from factors such as stronger expected growth–both in the short term and in the longer run–and higher interest rates, which reflect differences in policy settings as well as other forces
Currency undervaluation by surplus countries is inhibiting needed international adjustment and creating spillover effects that would not exist if exchange rates better reflected market fundamentals. In addition, differences in the degree of currency flexibility impose unequal burdens of adjustment, penalizing countries with relatively flexible exchange rates.
…..currency undervaluation inhibits necessary macroeconomic adjustments and creates challenges for policymakers in both advanced and emerging market economies. Globally, both growth and trade are unbalanced, as reflected in the two-speed recovery and in persistent current account surpluses and deficits. Neither situation is sustainable. Because a strong expansion in the emerging market economies will ultimately depend on a recovery in the more advanced economies, this pattern of two-speed growth might very well be resolved in favor of slow growth for everyone if the recovery in the advanced economies falls short. Likewise, large and persistent imbalances in current accounts represent a growing financial and economic risk.
Second, the current system leads to uneven burdens of adjustment among countries, with those countries that allow substantial flexibility in their exchange rates bearing the greatest burden (for example, in having to make potentially large and rapid adjustments in the scale of export-oriented industries) and those that resist appreciation bearing the least.
Appropriately accommodative policies in the advanced economies help rather hinder this process. But the rebalancing of growth would also be facilitated if fast-growing countries, especially those with large current account surpluses, would take action to reduce their surpluses, while slow-growing countries, especially those with large current account deficits, take parallel actions to reduce those deficits.