[news] U.S. dollar put on yellow alert

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From: shniad at sfu.ca


Financial Post	   January 12, 2004

U.S. dollar put on yellow alert

Orderly decline, or disorderly crash?

Jaqueline Thorpe

The first full working week of 2004 is barely behind us and the U.S. dollar
has found itself on yellow alert -- at significant risk of further attack.

While the greenback has dropped more than 30% against the euro over the past
two years, its 2% skid in the first week of the year has many openly
wondering: When does an orderly decline become a disorderly crash?

"The risk of a U.S. dollar collapse -- or at least a further substantial
decline -- seems to be more and more likely," George Magnus, chief currency
strategist at UBS in London, said in a report last week.

Just a few weeks after putting out his projections for 2004 -- and he was
already known as a U.S. dollar bear -- Mr. Magnus cut his year-end forecast
for the greenback to US$1.40 per euro from US$1.32.

The slide in the world's reserve currency has certainly been picking up.
News that the U.S. economy created a measly 1,000 jobs in December was the
culprit behind its bellyflop to a record US$1.29 low on Friday. It is now
down 12.5% against the European currency, 10% against the British pound and
11% against the Swiss franc in the past two months.

Oddly it appears to have eased up somewhat against the loonie, dropping only
5% since November but there were some fireworks on Friday when the loonie
dollar crossed the US78 cents barrier to end at a fresh 10 1/2-year high of
US78.67 cents.

So far however, policymakers have been sanguine. A European Central Bank
meeting came and went last week with no change in 2% interest rates.

"Although recent exchange rate developments are likely to have some
dampening effects on exports, export growth should continue to benefit from
the dynamic expansion of the world economy," Jean-Claude Trichet, the ECB
president, said.

All U.S. Treasury Secretary John Snow said last week was that the United
States supports a strong dollar, something he has said many times before.

There was no "officials are watching market developments closely," no
"disorderly movements in exchange rates are undesirable" or any of the other
usual verbal hints that officials are starting to sweat.

"It's a bit alarming to find officials on both sides of the Atlantic so
laissez-faire about the pace of the decline," Michael Woolfolk, senior
currency strategist at Bank of New York, said.

"It certainly suggests ... that it might not be until the G7 meeting on Feb.
6-7 that we get any kind of guidance. The problem with that is that the way
in which the market has been trading recently -- in which the dollar has
been perceived as a one-way bet downward -- we could hit 1.30 well before
that."

The US$1.30 mark is important in two respects. It is a big fat round number
and traders like to target those. More importantly, Mr. Woolfolk thinks it
represents a pain threshold for financial officials.

A slide to US$1.30 against the euro would bring its losses to 20% over the
last 12 months and no Group of Seven currency has dropped more than 20% in a
single year since 1980, except in three specific instances.

These were the co-ordinated efforts to bring down the greenback under the
Plaza Accord in 1985-87 (it dropped 22.4% against the German mark in 1985,
21.4% in 1986 and 18.3% in 1987), the 22.8% devaluation of the Italian lira
during European currency crisis of 1992 and the 22.8% drop in the euro
against the Japanese yen after the euro's launch in 1999.

"In light of this, it appears that the 'maximum speed limit' for the
devaluation of a G7 currency is 20% a year," Mr. Woolfolk said.

Yet markets were abuzz last week with strategists trying to define what
would be a "crash" in the U.S. dollar . Putnam Investments in Boston was
quoted as characterizing a crash as a 20% drop or more over three to six
months. Morgan Stanley in London meanwhile said it would take a 5% drop per
month over several months or a 3%-per-month fall against on a trade-weighted
basis. That has been down about 1% per month for the past 24 months.

But many others say forget percentages.

"The question is whether [the slump in the dollar] is impacting other asset
markets, corporate competitiveness or anything like that and in that regard
I find it difficult to believe anybody in the the U.S. administration is is
concerned about it," Bob Sinche, senior currency strategist at Citigroup in
New York, said. "Bond markets are behaving well, equity markets are behaving
very well, inflation is under control, so you have difficulty finding a
reason why one would not be pleased about these developments."

Indeed, it is clear a substantial fall in the dollar is one plank in the
Bush/Greenspan recovery plan along with the tax cuts and ultra low borrowing
rates.

Still, central bank and financial officials will undoubtedly have to step in
to arrest the greenback's decline at some point, even if stock markets don't
melt down.

"One of the first rules of foreign exchange is that [currency moves don't]
stop without policy intervention," Mr. Woolfolk said, pointing out it took
the Louvre Accord to put a rug back under the greenback in the mid-1980s.

jthorpe at nationalpost.com




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