G-20 Make Promises But Will They Deliver?

By: Brewer Futures Group | Fri, Apr 3, 2009
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The U.S. Dollar fell sharply lower after news leaked that the G-20 had decided on a financial aid package designed to rescue the weaker nations of the global community. The Dollar opened lower on expectations that the G-20 summit would provide a little clarity and conviction to a new plan to help revive the global economy. The Dollar extended losses against most major currencies throughout the day and especially after the release of the official announcement following the closing comments of the summit by British Prime Minister Brown.

The highlight of the summit was the proposal of a stimulus package of up to $5 trillion. About $1 trillion of this new money was earmarked for the International Monetary Fund. Also agreed upon was $250 billion in trade-finance credits to help jumpstart global trade.

In a surprise move, G-20 leaders vowed not to pursue competitive currency devaluations. This agreement could alter the plans of countries like Switzerland and Japan, both of which were willing to weaken their own currencies in efforts to stimulate demand for exports.

Additional financial regulation measures were also agreed upon which included more oversight for hedge funds and tax havens. In its final statement the G-20 committed to regulating all "systemically important financial institutions."

Overall the final statement seems weak. Obama wanted to come away with a pledge for more financial stimulus in order to revive the global economy. Instead it looks like the Euro Zone countries got what they wanted: additional aid for Eastern and Central European countries. In the end, Obama couldn't use his charm and charisma to sway the European nations into providing more direct stimulus. Apparently the European nations led by the Euro Zone countries convinced enough G-20 members that increasing debt levels was not the solution.

Many traders were looking for coordination of efforts by the central banks. The only "coordination" to come out of this meeting was the pledge to provide coordinated aid to the financially strapped emerging markets in Eastern and Central Europe. This basically means making a promise to give money to the IMF. Like any pledge, it may take years for the money to show up - if it shows up at all.

This move by the G-20 took the European Central Bank off the hook for providing its own relief package to the struggling members of the Euro Zone. Just 2 months ago the structure of the European Union was being threatened by the possible bankruptcy of a few of these emerging market countries. At that time the European Union pledged little money choosing instead to blame the problems on the Eastern and Central European's desire to become too "westernized" too fast. The EU blamed them for borrowing too much money without having the means to pay back the loans.

By getting the IMF involved the ECB will no longer have to address the issue regarding the weaker European emerging markets. Since it is an election year, incumbent politicians won't have to justify spending money on foreign aid. If the money ever reaches the poorer nations of the EU then it will likely be used to pay back loans to Euro Zone banks.
What this G-20 meeting accomplished was to effectively get the industrialized world to pay for the mistakes of Euro Zone banks. So instead of facing loan defaults from Eastern and Central European countries on the brink of bankruptcy, the Euro Zone banks found a way to get the loans paid off without taking a hit to their capital. This is probably why the European Central Bank decided not to cut rates to 1%. They already knew the Euro Zone economy would get a boost from the very generous global economic community.

Although the Dollar broke today on the news from the G-20, traders should still be cautious about selling the Dollar too aggressively. The last I looked, the entire global economy was in a recession. Providing aid to a few emerging market countries will not get the world out of the recession. The move by the G-20 will only save a few butts at the European Central Bank. Once again the money has been allocated to the wrong party and once again time will be wasted while the global economy continues its slide.

In other news, the Dollar felt additional pressure from an increase in trader demand for risk as a U.S. accounting regulator relaxed its rules on mark-to-market valuation of certain toxic assets. This move quickly pumped optimism into the market as the Dollar lost some of its luster as a safe haven currency.

The Euro had a big gain on Thursday as trader appetite for higher risk, higher yielding assets increased. This market opened higher and built on its strength throughout the day. Even before the day began traders could sense someone was buying the Euro while the rest of the world's traders stood on the sidelines awaiting the latest 50 basis point rate cut by the European Central Bank.

The ECB surprised market participants by declaring a 25 basis point cut. This move sent the Euro higher. ECB insiders are saying the move was made to protect the integrity of the Euro. In other words, Trichet and the boys just wanted to do something different from the rest of the central bankers. They wanted their decision to standout from the rest of the central banks which had been slashing rates to near zero.

The announcement after the rate cut also demonstrated the arrogance of Trichet and the other policymakers when he backed away from announcing in detail any plans to provide alternative means to stimulate the economy. Trichet instead chose the May ECB meeting as the time and the place to make the announcement.

I think the real reason behind failing to announce an alternative plan, such as quantitative easing or direct aid, is that the ECB doesn't know how to do it. There are 27 nations in the European Union and 16 in the Euro Zone. I think the ECB realized that there is no fair way to determine who gets how much money.

Once the G-20 optimism wears off, traders will realize that the global economy is still deteriorating. The ECB will also realize that export demand will continue to drop because the Euro is too strong and people have stopped spending. So while the EUR USD may look stronger at this time, in the long-run the U.S. Dollar will increase as traders will realize that the Euro Zone economy has not bottomed out.

The GBP USD picked up strength on Thursday as the global equity markets surged on increased demand for risk. The weaker Dollar, caused by the optimism from the G-20 summit, also contributed to the gain. Although no money will be handed to the U.K and the G-20 agreement will actually cost the Bank of England money, traders felt the need to buy British Pounds.

An increase in housing also helped support the British Pound. A turn in the housing market will give the British economy a big boost while the Bank of England still battles low consumer spending and high unemployment.

Look for optimism in the global economy to continue to provide support for the British Pound. Shrewd traders will continue to monitor the economic reports to look for additional signs of a turnaround in the economy. Better housing numbers may be enough to help form a bottom, but it is going to take a change in spending habits and better credit to revive the U.K. economy. Keep an eye out for another round of quantitative easing if the next few major economic reports come out worse than expected.

The only currency to trade lower on Wednesday was the Japanese Yen. Major problems still plague the Japanese economy that may not be correctable over the short-run. Japanese investors are most likely selling Yen to chase better yields elsewhere. This action led to much of the weakness in the Yen overnight.

There was a glint of optimism out of Japan Wednesday as news was released that a few Japanese automakers will increase production in the coming month. Traders should note that while increased auto sales are good for economy, it does not represent a trend.

The recent activity by the Bank of Japan has been declared lame and government stimulus packages have had no impact on the economy. This may mean that the BoJ will have to take more aggressive steps toward reviving the economy. There is no question that the BoJ wants to see a lower Yen to encourage greater demand for exports. Since competitive currency devaluations have been restricted by the G-20 members, expect to see more aggressive quantitative easing if the Bank of Japan wants to encourage a weaker Yen.

The Canadian Dollar is expected to continue to post strong gains as long as equity and crude oil markets remain strong. Traders drove up crude oil on Thursday on optimism that the buzz created by the G-20 agreement will turn up demand for crude oil.

Unfortunately this is just speculations as increased inventory numbers are still indicting a serious recession is taking place. The worst thing to do at this time is to judge an economic recovery on the price action of crude oil. Additional gains are expected but news that the Bank of Canada will cut rates and announce a new quantitative easing plan near the end of the month could limit the rallies.

The Swiss Franc could gain considerably now that the G-20 nations have pledged not to purposely weaken their currencies. This news could curtail plans by the Swiss National Bank to continue its plan to weaken the value of the Swiss Franc in an effort to encourage new demand for exports. Additional intervention may be out, but this should not stop the SNB from applying quantitative easing if necessary. Look for the USD CHF to weaken if the Dollar begins to lose its value as a safe haven

Greater appetite for risk helped buoy the AUD USD to price levels not seen since January. Australian policymakers are also optimistic that the proposed money for the emerging markets will somehow find its way back to Australia in the form of renewed export demand. Hopefully increased exports will be beneficial for the economy.

There are some concerns that the high price of the Australian Dollar will actually hurt demand for exports. The Reserve Bank of Australia will be monitoring the situation closely. Unfortunately getting data that shows demand is tough, so traders have to be aware of potential emergency actions by the RBA.

The news is similar for the NZD USD. While policymakers are hoping that the money pledged to poorer nations will lead to increased demand for New Zealand exports, there is a possibility that buyers will be turned off by the high price of the New Zealand Dollar. This will actually hurt the economy.

The Reserve Bank of New Zealand will have to pay attention to price levels so that it can adjust interest rates accordingly since it has room to cut again. If the pledged money never finds its way to the economy then look for the RBNZ to take action to revive the economy. This may mean another stimulus plan or quantitative easing.

The RBNZ will do what it feels is best for its currency regardless of what was formalized by the G-20 members. If the RBNZ feels that prices are too high and an intervention is necessary then so be it. The rally should continue unless acted upon by the RBNZ. Higher equity markets however are necessary to keep the upside drive going. Any bad news in the stock market will trigger profit-taking. Currently this rally is relying solely on speculation that the economy will turn around.



Brewer Futures Group

Author: Brewer Futures Group


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