Download By dint of railing at fools, we risk becoming fools

Economics Notes for Investors
Roger Nightingale 12th November 2010
By dint of railing at fools,
we risk becoming fools ourselves!
Gustave Flaubert—be kind to politicians and central bankers, therefore!
Some phenomena are essentially temporary.
Currencies have been too stable for too long. The European monetary authorities have
suppressed changes in EZ exchange rates. And a number of Asian Central Bankers, operating similarly, have preserved the dollar value of their currencies.
Fooling traders is one.
Until earlier this year, the policies were quite successful. A skilful mixture of
psychology and open market operations convinced traders that there was little to be
gained from speculation. No longer.
It can be done, but there’s
always a reaction.
The money policies that caused currencies to converge prompted economies to diverge.
And that convinced speculators that adjustments would have eventually to be made.
The only issues worth debating were: how much and how soon?
Trichet is about to be taught
the lesson.
Last week’s GDP numbers from the EZ demonstrated how urgent the need for change
had become: the weak were getting weaker, and the strong stronger. Germany’s third
quarter growth was 2¾% (excellent, given the better than 9% figure in the preceding
period), but Spain’s and Portugal’s, Greece’s and Ireland’s, were in negative territory.
The money policy appropriate for the one was clearly inappropriate for the others.
It’s unlikely that either he . . .
What was Trichet to do? Focus on the good or the bad? In either event, there’d be a
disaster: if money were tightened to suit the strong, the weak would suffer a 1930sstyle depression; if it were loosened to accommodate the weak, the strong would overheat (or jump ship).
. . . or the EZ will survive.
In these circumstances, the only sensible thing to do was abandon the pretence of a
single currency and let member countries implement independent money policies. That
was the conclusion to which traders and hedge funds had come months ago. They saw
the ECB as a busted flush. It’d not been respected in the past; it wouldn’t be in the
future.
Short term, the euro might
rise.
How much will the departing currencies fall in relation to the ongoing euro? Nobody
knows, but the range of guesses is fairly tight: 15 to 40%! Much will depend on
whether the Governments of the leaving countries honour or repudiate their eurodenominated bonds.
But, eventually, it’ll morph
into the DM.
There’s another issue exercising the minds of traders. If the ongoing euro were to rise
significantly in the aftermath of any departures, mightn’t that send the next candidate
over the top? If the four obvious casualties were to go, it’s possible that a stronger
euro, made stronger still by heightened German influence, would force out Italy and
Belgium as well. Next in line: France! By 2014, it’s not impossible that the euro’ll be
confined to Germany and a couple of its satellites!
The Chinese know they
have to tighten money.
Asians are more logical than Europeans. They’ve already worked out what needs to be
done, and have prepared themselves to do it. Currently, Central Bankers in Beijing may
be resisting, but probably only for the sake of form. They know that the alternative is
protectionism. They know as well that their domestic economy is overheating (property
bubbling). Higher interest rates and a stronger currency are needed.
The Indians also.
India’s analysis proceeds similarly. The monetary authorities have been remiss: they
have let inflation rise to 15% and the external deficit to 5% of GDP. It may be that a recession will be required to restore equilibrium.
That’ll allow the
Americans to loosen.
The Fed has a problem on its hands. US growth faltered in the second and third
quarters. It needs a boost: easier money, a weaker currency, or both. Inflation seems
not to be a problem. Jobs are. They’re not being created quickly enough to make the
recovery self-sustaining.
The Fed wants a weaker
currency.
Bernanke realises that, in the slowing phases of the cycle that lie ahead, it’s recession
that has most to be feared. Quantitative easing will be implemented, therefore. And, if
the dollar were to fall 25 to 50% against the yuan, he’d probably not worry. Republican
hotheads will be allowed to pretend that fiscal policy is important. He’ll control
liquidity.
So, probably, does the
B-of-E.
The Brits are taking a somewhat similar line, albeit less expertly. The Governor of the
Bank of England has mis-analysed the economy fairly comprehensively in the past. It’s
to be hoped he’ll not do so again.
Pity about Cameron.
Nor is the Government inspiring much confidence. The GDP numbers for the middle
quarters of 2010 were satisfactory. In part, though, they were boosted by last year’s
devaluation. Things will get worse in the new year. And what a pity it was that, on the
fiscal front, the Government missed the golden opportunity provided by the spending
review to contain the pensions of the public sector and the excesses of the eurocrats.
The bull run isn’t yet over.
Currently, financial markets are nervous. Investors fear that political aggravation in
Seoul will hurt valuations. It probably won’t. They’ll rise again in the months ahead.
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