No more Mr Nice Fed

I think we have now arrived at a hinge point in the currency war.  The USA has decided to throw its weight around.

Up till now it has been the U.S.A. complaining loudly and bitterly that China isn’t playing fair by keeping the Yuan artificially undervalued, while China, for its part, largely ignored the complaints. Between the two posturing behemoths, Japan engaged in a spot of onanism and Europe was happy to let people’s worry about sovereign defaults keep the Euro low.  Such worries have subsided somewhat but some strike action might fix that.

But now the Fed has started to talk about being willing to do ‘whatever is necessary’ to support the U.S. recovery.  Which has slowly been clarified into saying it would consider a large new bond buying spree paid for with printing rather than borrowing.  And that has turned the situation at right angles.

The Dollar has now lost a great deal of its value versus the Euro, the Yen and the Australian dollar as well as a host of other currencies.  It hasn’t actually lost much versus the Yuan.

Unlike the poor old Japanese, who are now, currency-wise at least, moribund, impotent and fixed in place like a stunned ox waiting for the end to come, the U.S. is still in a position of some power.  The dollar has plunged in value on nothing more than the assumption, on the part of the Big Banks, that the Fed will now print and buy.

The buying part has rallied the stock markets with the sweet smell of free money and the promise of off-loading yet more bad loans and rancid securities.  The printing part has depressed the value of the dollar.

Of course America is not altogether convinced it wants a weaker dollar.  Exporters may like the idea but since US oil is largely traded in dollars there is the camp which worries that a low dollar may translate into higher oil and petrol.

The larger concerns, however,are international.

Everyone is now claiming everyone else is a currency manipulator.  A bill declaring China to be exactly such an ‘evil doer’, to quote America’s last intellectual titan of the Oval Office, has just passed the Senate. Or if it hasn’t is about to.

Japan has also started to ‘warn’ China about its currency actions.  While Thailand has introduced Capital controls and both India and Brazil are considering them.

The Japanese have made no bones about trying to depress the value of the Yen and the Swiss have been similarly up front about their efforts.  Both have spent huge amounts to achieve bugger all.  Which must sting all the more when they see what America achieves without actually spending any money at all so far.  Just talking about it has sent the dollar down and sent quite large waves rocking everyone else.

And that is the trouble with all this.  Currency moves can be like underwater land slips.  A large body of water moves but no one can tell how big the disturbance is going to be until the wave reaches shore somewhere.Then, when it’s too late, you may find you have a tsunami on your hands.

One thing is known.  All semblance of coordination and cooperation is over.What we have now is uncoordinated moves tugging first one way and then another each making the system more volatile and less stable.

Up for grabs is what is going to happen in France.  Not really a headline yet but will be.  The French Unions scent blood and now the students are with them.  Let’s see the reaction to petrol shortages. If the unions don’t back down fast then it’s game on.

Portugal is going the same way.  The government is losing its slender grip on power.  If it looks like it is going to lose its ability to force further cuts then expect a ramp up in CDS and borrowing costs.

Ireland is not out of the woods.  UK is quiescent for the moment.

China’s banks are, I believe, going to deliver a little shock for us.

Germany is getting bolder and bolder in its now quite vocal opposition to the American vision of more bail-outs and loose monetary policy.  Germany is going to push this opposition to the point where it becomes nationalistic I think.  Choosing the successor to Trichet at the ECB could well provide the arena for a diplomatic spat about interference.

But it is in America where the fire is burning.  The US is going  to have a hard time talking to China about currency intervention and devaluation once the Fed starts QEII.  The POMO operations (The Fed’s direct buying of bonds and dumping of cash into the markets every week) are ongoing and the Fed is going to find it very difficult indeed to NOT QE now that it has been so comprehensively talked, expected about and priced in.

And the whole QE decision is now not taking place amidst calm reflection on what would be best long term, but just as a large fire is burning and spreading through the tinder dry Securities of residential and commercial mortgages in every bank in America.

The dollar has shot down. For Japan this is a disaster they must be seen to address.  Thus they will. Europe too would be pleased to see events depress the Euro.  Capital restriction are where I see the real fun start.  If they come in in India and Brazil, dollar funds will back up like turds in a toilet – under pressure.

And the fire in US securitization is spreading like a California wild fire. Hot and fast.