Two events roiled the currency market this morning. First, the GDP numbers out of many European economies were weaker than expected. The softness of European economic activity has stirred the complacency of recent buyers of EUROs and caused some unwinding of the EUR/YEN and EUR/GBP cross rates. The second event that unnerved recent buyers of EUROs was a comment by the ECB Governor from Portugal, Vitor Constancio. It was reported that Mr. Constancio said in response to recent Euro strength that “… negative rates always possible.”
This statement steps into the realm of ECB President Draghi as it is not usual for ECB governors to be so outspoken in setting forth on a more aggressive policy. Yes, German ECB members have spoken out against an over-easy policy but other governors don’t speak out and try to push the president to go further. It was this show of “monetary independence” that seemed to have pushed the euro to new lows for the week. More importantly, the euro failed to stage a serious rally after a 1% decline.
This week’s G-7/G-20 meeting–already labelled a farce by the Financial Times–reflects the schism between the French and Germans over the recent strength in the EURO. France, with the support of the peripheral EU nations, will try to prevent monetary policy from being captured by the German hard money crowd. It seems that Governor Constancio fired the first shot in the battle of Draghi at bay. The French and their allies on the ECB and ECOFIN will do all they can to get the ECB to enter the global currency war as the French economy continues to deteriorate. The global currency battles will take on a regional color as Weidmann and the Bundesbank try to prevent the quantitative easers from gaining ascendance.
***BAD NEWS FOR THE WORLD’S CENTRAL BANKS. It was reported today that some of the world’s largest hedge funds had made 10% returns by being short the YEN for the last three months. The issue is not that they caught the move but rather that for the first time in three years the financial behemoths have some financial wind at their back and can now get more aggressive in taking positions. The global macro players have had a tough run as the markets were led by the high frequency algos and fundamentals were overwhelmed by seekers of safe havens and the power of QUANTITATIVE EASING. The bond vigilantes had been disarmed by the central banks balance sheets. The billions in YEN earnings will put some bravado into opinions of the global macro crowd. More proof of the rise in volatility that awaits the markets. World financial leaders, you have been warned.
***Switzerland moves to pop a housing bubble. In a Bloomberg article from February 13: “The Swiss government ordered banks to hold additional capital as a buffer against risks posed by the country’s biggest property boom in two decades. Banks will be forced to hold an extra 1% of risk weighted assets linked to domestic residential mortgages….” I bring this up as it shows that there is a difference of opinion about whether or not a bubble can be identified in real-time and thus brought under control before it pops and takes the air of the entire financial system. Ben Bernanke and Alan Greenspan have both claimed that a bubble cannot be identified before it pops, but here the Swiss are taking a PROACTIVE approach, or, for the academics, macroprudential, and trying to halt its inflation. By forcing banks to increase reserves on mortgage lending, the SNB hopes to curtail rising real estate prices without having to raise interest rates. Raising interest rates would undo the Swiss National Bank’s policy of halting the appreciation of the FRANC.
I must add that the Canadian government has embarked upon a similar approach in order to slow its real estate market and is having a modicum of success. As the former BIS economist Bill White asked back in 2006: IS A CENTRAL BANK’S TASK TO LEAN OR CLEAN? It isn’t politically popular to deflate a bubble, be it real estate or equity, or farm land, but being a central bank chairman is not about popularity. Ok, get your ringside seats to the G-20 circus is in Moscow.