Alan's Finance Blog

Europe WANTS a Lower Euro

The euro is in devaluation mode … in a sharp 17 percent decline against the dollar over the past five months. And I’ve written extensively on why, and why it still has further to go.

Now I believe a covert policy decision has been made by the European Central Bank (ECB) to use currency devaluation as a tool for the European monetary union (Emu) to survive.

Of course, each individual country within the Emu doesn’t have the luxury of devaluing their currency when times are tough. They’re locked into a monetary union of sixteen countries. And monetary and currency policy decisions are made by the ECB.

That puts countries like Portugal, Ireland, Italy, Greece and Spain (the PIIGS) at a competitive disadvantage when trying to salvage themselves from debt burdens and feeble economic activity.

The Emu will do whatever is necessary to save the floundering euro.

But now, it’s becoming evident that the Emu as a whole is prepared to take such drastic measures to keep the euro intact!

I think we’ll find that the ECB will aggressively reverse course on exiting from the emergency monetary policies they put in place to deal with the financial crisis of 2008 … returning to emergency mode, and in a big way. They’ll likely be forced to openly buy up the government debt of the weak economies to keep them breathing — i.e. print money, and a lot of it.

The plan requires that Germany, the core of the euro, participate in serving the interests of the lowest common denominator in Europe: The PIIGS. Of course, they’ve already done so by agreeing to provide bailout funds to Greece. But the next moves in the playbook will likely drag Germany headlong into it.

Germany: Swimming with the Fishes

Germany is the biggest, most robust country in the euro zone. It was among the first major economies to emerge from recession. Its economy is expected to grow by 1.5 percent this year, and 1.8 percent next year. So things are going relatively well for the Germans following the harsh recession.

Why, then, would Germany agree to be dragged down by the weak and expose themselves to potential inflation problems in the process? Why not just hit the eject button and remove themselves from the euro?

Here in a nutshell lies the problem: Germany has a lot to lose if other euro countries end up in shambles. It’s exposed on two fronts …

First, Germany is on the hook for $668 billion in PIIGS sovereign debt. Not to mention the fresh $30 billion they’ve agreed to give Greece.

A default, or worse, a string of defaults would be disastrous for German banks and European banks in general. European banks bought about half of the general government bond market last year.

And second, if these countries continue their downward spiral, Germany’s intra-Europe exports (10 percent of total exports) promise to dwindle with it.

So what does Germany gain from sacrificing for the weak?

For one, it averts the problems mentioned above. And two, it will enjoy a much weaker euro in the near future, thus providing a nice kicker for its exports outside of continental Europe.

ECB Already Taking the Plunge

ECB President Trichet would not discuss the euro’s value in his recent press conference.

Europe, the IMF and the ECB demonstrated this week that it’s ready to go all out to keep monetary union intact. They announced a massive multi-year bailout for Greece. And perhaps in a bigger move, the ECB is now accepting Greek junk bonds for collateral — jeopardizing the credibility and independence of the central bank.

As I was watching the ECB press conference following its monetary policy meeting this week, central bank President Jean-Claude Trichet looked flustered and measured his words very carefully. And two things gave me a sense that they had a plan, which included a much weaker currency:

1. He adamantly said a Greek default is “out of the question.”
2. And a biggie … he ignored all questions about the value of the euro, despite its slippery slide!

The Swiss National Bank must have sensed something, too. This week it chose to back away from buying euros as an intervention tactic to curtail the strength of the Swiss franc. Perhaps, the SNB knows that gobbling up euros at current prices is a recipe for losing money.

In sum, financial crises and sovereign debt crises typically go hand in hand. As do sovereign debt crises and currency devaluations. So be prepared to see a continued decline in the euro and other global currencies … and more capital flowing into the U.S. dollar in search of a safe haven.

Regards,

Bryan

I Found a Forex LIVE Trading Room that did 1,000 Pips in February

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Fed’s Currency Swap Lines: A BIG deal for the Dollar

The Fed met this week on monetary policy. It was a bit of a snoozer. What wasn’t a snoozer, however, was what they’ve included in their recent monetary policy statements regarding currencies.

Most market participants have been entranced by the Fed’s language about their target interest rates …

Will they say they’ll keep rates low for an “extended period” or not?

But the real story was buried in the last paragraph of the December Fed statement and reiterated in their latest statement.

Here’s what it said …

“The Federal Reserve will also be working with its central bank counterparties to close its temporary liquidity swap arrangements by February 1.”

Following the Fed’s statement this week, there was a coordinated release of comments from the European Central Bank, the Bank of England and the Swiss National Bank confirming that the swap lines were no longer needed.

For the currency markets, this is a big deal. Yet, few have thought the juicy details of the Fed’s plans on currency swaps are of interest.

But I do. I suspected it was a game changer for the dollar when I was studying the statement last December. And so far, the price action in the currency markets is confirming that.

Here’s a bit of background …

In September and October of 2008, the Fed announced that it would be opening temporary currency swap lines with central banks around the world in fixed amounts through April of 2009. As that expiry date neared, the Fed extended the period to October, and then extended it again until February of this year.

Here’s what that means: The Fed agreed to give foreign central banks U.S. dollars at a determined exchange rate for the currency of the respective foreign counterpart. And when the swap ends, the two central banks simply repay the same quantity of currency back. There’s no exchange rate risk and no impact on the demand for currency in the open market.

Why Did the Fed Offer Dollars to the Rest of the World?

When the credit crisis was at its peak, banks around the world were hesitant to do any short-term lending with other banks. As a result foreign bank-to-bank lending rates for dollars, the world’s primary business currency, shot up. That restricted access to dollar borrowing and pushed a lot of consumer interest rates higher in the U.S. and abroad.

By providing these currency swaps with other central banks, the Fed helped to inject dollar liquidity into banks around the world. And it was well needed.

In short, it was good for the global financial system because it helped reduce the fear premium that was causing market interest rates to soar.

You can see this clearly in the chart below. In panel A, while the Fed and other central banks were cutting benchmark interest rates to the bone (the white line), the Libor rate (the orange line), or the rates at which banks make short term loans between themselves, was going in the opposite direction.

Subsequently, when the dollar swap lines were rolled out, you can see in panel B how this divergence was reversed.

The Implication for Currencies

Most importantly for currencies, what these currency swaps did was increase the supply of U.S. dollars in the global markets — a negative drag on the value of the dollar.

So with the Fed announcing that it will close its currency swap lines with foreign central banks by February 1, the unlimited access to dollars by foreign central banks has come to an end.

This development is easily a positive for the dollar.

Let’s take a look at the timeline of these developments and the respective performance of the dollar …

As you can see from the chart, following the Fed announcement that the swap lines would be extended through October, the dollar has gone through a period of decline. Since December, when the Fed announced these facilities would be ending in a little more than a month’s time, the dollar has been on the rise.

When they opened these massive swap lines in late 2008, the goal was to alleviate the dollar liquidity crunch at banks around the world. However, in the process they increased the supply of dollars around the globe — a negative consequence for the value of the dollar. But now that these lines will be closed, it’s clearly a dollar-positive development.

And with the weight of evidence leaning in favor of the dollar at this stage, as I laid out here in my article last week, this latest announcement by the Fed provides more reason to believe in this dollar rally.

Regards,

Bryan Rich

What Could Lift the Dollar?

The most recent employment data in the U.S. came in significantly better than what was expected. And the financial markets reacted in a different way this time. Interest rates went screaming higher, the stock market surged, gold fell and the dollar shot up.

In a normal environment a stronger dollar following better U.S. economic data sounds perfectly reasonable, but in the current “risk-centric” environment good news has been bad news for the dollar. That’s because it has emboldened risk appetite, which has translated into investors selling dollars in exchange for higher yielding/higher risk currencies.

This time the improving data gave investors the idea that the Fed could begin reversing its zero interest rate policy sooner. That got the dollar moving higher. And that got the wheels turning for a bounce in the weak dollar trend.

The dollar has continued to show strength following that turn in sentiment, but the prospects of a sooner move on rates has now been dismissed. The knee-jerk reaction in the markets that priced in an earlier hike in rates was subsequently fully reversed.

What is now underpinning dollar strength is a shift in market focus toward some of the headwinds facing the global economic environment. That’s swinging the risk appetite pendulum back toward safety, which is positive for the dollar.

So what can keep this momentum going in the dollar?

Answer: Growing risks to the global economy.

Let’s take a look at some of the specific catalysts that could fuel more demand for dollars …

Catalyst #1: Rising Prospects of a Sovereign Debt Crisis

First it was Dubai that stoked fear in the financial markets over the Thanksgiving Day holiday. Now, Greece has been called on the carpet over concerns that the nation will struggle to meet debt commitments. Fitch downgraded Greece to just three notches above the lowest investment grade status.

Debt problems in a global crisis have the ability to be contagious. And that can destroy investor confidence in the capital markets of such countries, and in the global economy. And when confidence wanes, capital flees. That’s a recipe for falling dominoes.

First it was Dubai that rattled the markets. Now Greece’s debt has investors worried.

Catalyst #2: Problems for the Euro

The recent downgrade in Greece turns the market focus back to the problems that exist in the Eurozone, and that’s putting downward pressure on the euro … which means upward pressure on the dollar.

The European Union’s growth and stability pact limits all member countries to a budget deficit of 3 percent of GDP. But Greece is running a budget deficit of 12.7 percent of GDP, over four times the limit.

In fact, on average, the 16 member states of the single currency are running a budget deficit more than twice the 3 percent limit!

So the uneven performance in Europe will likely call into question the viability of the euro currency again. Another bout of speculation of a break-up of the euro is hugely dollar positive.

Catalyst #3: Growing Uncertainty Surrounding Economic Recovery

Now that sovereign debt problems are surfacing, investors are getting concerned about the sustainability of this recovery. After all, the unprecedented global fiscal and monetary response was an experiment. The outcome is unknown. And the underlying problems related to the crisis still exist: Bad debt, reduced wealth and tight credit to name a few.

Moreover, when you answer a liquidity crisis with more liquidity, you’re bound to create more bubbles. While ground zero for the credit crisis was the U.S. housing market, new bubbles in real estate are developing in the areas that were relative outperformers in the downturn (such as China, India and Canada).

In Shanghai, housing prices were up 40 percent in October from the same period a year earlier. And in a story about the Canadian housing market this week, Bloomberg quoted a real estate agent as saying, “Where else in the world do you have agents lining up overnight to buy a condominium?”

To someone here in the U.S., that sounds familiar.

Catalyst #4: Protectionism

We’ve already seen evidence of restrictions on global trade and capital flows. Considering protectionism was a key accomplice in fueling the Great Depression, this activity represents a major threat to global economic recovery.

After the lessons from the Great Depression, the leaders from the top 20 countries of the world vowed to avoid protectionist activity. But actions from the G-20 countries are speaking louder than words. New trade restrictions have been erected by most of them since the pledge was made.

Trade restrictions could derail global economic recovery.

Perhaps the biggest factor in the protectionism threat is China’s currency policy. Even after recent tour stops in China by U.S. President Obama and European Central Bank President Jean-Claude Trichet to lobby for a stronger yuan, the Chinese have remained steadfast on keeping their currency weak. As this issue with China’s currency gains in intensity, expect protectionist acts to rise in retaliation. And expect collateral economic and political damage.

Bottom line: If sovereign debt problems and the prospects of a double dip grow, you can expect investors to pull in the reins on risk. And this time, they might not be as eager to turn the risk appetite switch back on. That could give the buck a strong lift … a lift that might last longer and rise further than many expect.

Regards,

Bryan Rich

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The Fed’s Perfect Scenario

If you consider all of the structural problems in the U.S. economy, there has not been a lot of progress toward getting things back on track. The root causes of what created the near debilitating financial and economic crisis still remain:

Banks are still saddled with toxic assets,

Housing prices are still 30 percent lower,

Foreclosures are still hitting new record levels,

Credit is still tight and demand for credit is still contracting sharply,

And now …

The budget deficit has ballooned,

And debt levels around the world have climbed.

The U.S. government has thrown trillions of dollars at the problem. And the actions they’ve taken, for the time being, have helped to avoid a collapse of the financial system that would have caused a massive run on banks, a standstill of economic activity and a worldwide economic depression.

There are plenty of areas to question and debate the decisions made by the U.S. Treasury, the Fed and other government types. But the stabilizers and backstops, to this point, have managed to avert an economic freefall. Of course, the ultimate outcome of policy actions has yet to be determined.

But it’s clear that the U.S. and economies around the world remain fragile.

Even so, people are grasping tightly to the idea that a sharp bounce back is in progress and that a return to normalcy is near.

For the Fed, it’s this type of optimism that is driving a perfect operating scenario.

Government action has averted financial disaster, but global economies remain fragile.

What Is the Fed’s Perfect Scenario?

If the Federal Reserve and the U.S. Treasury could have scribbled out a wish list for financial market conditions last March when global economies and global markets were in freefall, it might have looked something like this …

Wish #1: Please give us rising stock prices.

Rising stock prices improve the sentiment of investors and consumers. They replenish some lost paper wealth and make companies feel better about the future. It’s amazing what a 64 percent rise in stock prices can do for confidence.

Wish #2: Please give us stable interest rates.

Demand is massively depressed by things like evaporated consumer wealth, tight credit, and high unemployment. And deflation has been, and remains, the immediate problem.

The Fed’s answer: Zero interest rates and “printing money.” These tools are at work to prevent a deflationary spiral and to influence low mortgage rates to curb the housing implosion.

But consumer credit and mortgages are priced based on market-driven interest rates, not rates set by the Fed. So a move higher in market interest rates, like interest on 10-year Treasury notes and Libor, would create a big problem for the Fed. It would drive up interest rates on consumer credit and mortgages, which would create even bigger problems for consumers and for the housing market. But that hasn’t happened.

Wish #3: Please give us stable commodity prices, especially oil.

Crude oil is down 50 percent from its high a year ago. In a period where consumers are more inclined to save, not spend … stable gas prices are critical.

Wish #4: And a gradually declining dollar wouldn’t hurt …

This is the icing on the cake. Even if global demand for everybody’s exports is still in the gutter, the effect of a weaker currency on GDP is a nice kicker. A weaker dollar means we import less and perhaps we export a little bit more … but most importantly, the net value that comes from importing less and exporting a little more is a key positive contribution to GDP.

Despite all of the fear about the future of the dollar, it’s important to realize that a weaker currency is actually good for an economy when economic growth is depressed. Our trade balance is narrowing and our current account balance has diminished dramatically.

Now, when the economy is growing at a healthy rate, then a stronger currency is preferred because it helps improve quality of life.

A weaker dollar is actually good for a depressed economy because it helps narrow trade and account balances.

A Gift Without Staying Power

By coincidence, or not, all the Fed’s wishes have come true. And this confluence of gifts from the financial markets has bought some time to address some of the structural economic problems. But the structural problems haven’t been repaired.

Financial markets are rarely compliant to wish lists, especially when the performance defies fundamentals. At some point, the markets will find fundamental equilibrium.

The key question is: When will markets revert to reality?

That’s the hard part.

The U.S. stock market continues to be the gauge of how investors feel about the prospects of a sustainable recovery. Higher stock prices equal more optimism. And more optimism equals higher risk appetite.

But at this stage, the idea of chasing returns that are not supported by fundamentals is a high-risk, low-reward proposition. And it’s not hard to find a reference point of the type of pain that can be associated with the divergence between market prices and fundamentals.

It was only twelve months ago that currencies, commodities and stock markets made sharp and abrupt collapses.

As for the Fed and the Treasury’s wish list … when the rise in stocks ends, so will confidence and any hopes for a sharp economic recovery. And when confidence wanes, investors feel more risk averse.

What Does That Mean for Currencies?

Fears of the dollar’s demise may be premature when compared to other currencies.

Despite all of the ugly issues surrounding the U.S. economy, it will have among the smallest of economic contractions in 2009 compared to other G-7 countries, second only to Canada. And for 2010, the U.S. is expected to outperform all other major developed market economies.

That says something about the state of the rest of the world.

And when it comes to the dollar, and currencies in general, you have to respect the relative nature of currency values. Currencies don’t operate in a vacuum.

A country’s currency is never valued based on how well or how poorly its particular economy is doing in isolation. It’s always measured against another country’s currency. So it is always valued based on how a particular economy is doing relative to another economy.

For those that are fearing darker days for the dollar, remember that the least ugly currency can still win the beauty contest. Also, any rise in risk aversion is a positive for the dollar.

Regards,

Bryan Rich

Is Intervention for the Yen on the Horizon?

by Bryan Rich

In the summer of 2007, Bear Stearns confessed it had spent $3.2 billion bailing out two of its funds that were exposed to the sub-prime market. At the same time, the yen carry trade marked its top. Soon thereafter, Bear Stearns went belly up, and the needle on the world’s sentiment shifted towards risk aversion.

Investors who had enjoyed a handsome return from borrowing cheap yen and using that yen to buy high-yielding currencies like the New Zealand dollar, the Indonesian rupiah and the Australian dollar went running for cover! They quickly found that the yen carry trade was like picking up pennies in front of a steamroller …

The success of this trade was highly correlated to the world’s dependency on easy credit. So when the warning signs started flashing that the credit bubble was bursting, the yen soared as investors fled those higher-yielding investments and bought yen to exit their trades.

As a result, since June 2007, the yen has gone up 28 percent against the dollar, its main trading partner.

Adding to that disadvantage, the yen has been exceptionally strong against the currencies of Japan’s key Asian competitors …

Since the middle of 2007, the yen has climbed:

• 20 percent against the Chinese renminbi (or yuan),
• 21 percent against the Singapore dollar,
• 25 percent against the Thai baht,
• 31 percent against the Indonesian rupiah,
• And 43 percent against the South Korean won.

That’s a distinct position of weakness for the Japanese because it makes their exports significantly more expensive than their Asian competitors’. Of course, this is horrible news for an economy where exports make up 16 percent of total output! And even with improvements in the global economy, Japan’s exports are still down 37 percent from this time a year ago.

This is why Japan has experienced the worst contraction of all major economies and is expected to have the weakest recovery. And that’s why there is speculation that Japan could return to recession — as soon as the fourth quarter of this year.

Will a New Ruling Party in Japan
Strengthen the Yen?

Hirohisa Fujii revised his initial remarks about the yen.

Japan’s new ruling party, the Democratic Party of Japan, entered office last month. And the newly-appointed finance minister, Hirohisa Fujii, was happy to publicly comment on exchange rates.

But his initial remarks that a strong yen could actually be good for the economy caught the markets by surprise and sent the yen soaring even further …

Japanese exporters strongly disagreed with him. So the finance minister was reminded that when he said “good” perhaps he should have said “bad.”

Since then, Finance Minister Fujii has done an about face, joining other major countries with verbal threats against the strength of their respective currencies (in relation to a weakening dollar).

This means that as the U.S. dollar continues to give back its gains from last year’s crisis-driven flight to safety, the possibility of currency intervention by countries like Japan increases.

Japan’s Previous Yen Intervention

Japan has a reputation for being sensitive to movements in the currency markets and for taking action. Its heaviest periods of intervention tended to coincide with slower economic growth rates — like it’s experiencing now.

The last time Japan intervened to weaken the yen was between 2003 and 2004 …

Over the course of 126 days the Ministry of Finance purchased $315 billion and sold yen in the open market. These steps ultimately sent the yen 11 percent lower.

But the overall success of interventions in changing the long-term path of a currency is not great. A lot depends on how it’s done …

Manufacturers and exporters would welcome an intervention weakening the yen.

Changing the path of a currency tends to have a higher success rate when countries act together in support of (or against) the same currency. These coordinated interventions also have a greater spillover effect on other currencies.

Last weekend, leaders from the G-7 met in Istanbul. Although all G-7 members have made increasingly frequent individual statements about currencies, the G-7’s collective message on currencies didn’t change! It was identical to its communiqué of April that said:

“Excess volatility and disorderly movements in exchange rates have adverse implications for economic and financial stability. We continue to monitor exchange markets closely, and cooperate as appropriate.”

So when you consider the theme of coordination in the policy responses to the global crisis, if a major currency intervention takes place, the probability of a coordinated response in currencies is high.

And for Japanese exporters dealing with a yen near 14-year highs against the dollar … that would spell relief.

Regards,

Bryan

Brought to you by Alan’s Forex Blog

http://alansforexblog.com

Arab States to Ditch U.S. Dollar-based Oil Pricing

Associated Press
Tuesday, October 6, 2009

The dollar fell Tuesday towards year lows against the euro and the yen after a report that Arab states and other countries were contemplating an end to the U.S. currency’s role in the pricing oil.

By early afternoon London time, the dollar was down 0.5 percent at 89 yen, while the euro was up by 0.6 percent to $1.4729.

Further sustained falls could see the dollar fall below its multi-year low of 87.11 yen, and the euro break above its two-year high of $1.4842, achieved last month. Story continues below ?advertisement | your ad here

The selling was stoked by an article in Britain’s “Independent” newspaper from respected journalist Robert Fisk.

Citing unnamed Gulf Arab and Chinese banking sources in Hong Kong, the article said ’secret’ meetings were taking place between Arab states, China, Russia, Japan and France, to end dollar dealings for oil and moving instead to a basket of currencies, including the euro, the yen and the Chinese yuan.

Officials in several countries either denied talks or said they had no knowledge.

Kuwait’s oil minister, Sheik Ahmed Al Abdullah Al Sabah, said there have been no talks on the topic among Gulf oil ministers. “At our level, no,” he said. “I didn’t even dream about it.”

Feeding skepticism

Despite the denials, the report fed market skepticism about the U.S. currency in favor of the euro and the yen as the dollar’s future as the world’s reserve currency continues to be openly discussed.

Last week, figures from the International Monetary Fund showed that the dollar’s share of total reserves has fallen to its lowest level since 1995. Meanwhile, Robert Zoellick, a former U.S. trade representative who now heads the World Bank, warned that the currency’s status as the world’s leading reserve currency should not be taken for granted.

“Some stories will run and run and this morning’s report regarding a possible replacement of the dollar as the exchange currency for oil is another chapter in the plot against the dollar as the world’s most dominant reserve currency,” said Jane Foley, research director at Forex.com.

The worries are in part based on much larger U.S. budget deficits and expansive monetary policy at the Federal Reserve, including rock-bottom interest rates and expansion of the money supply. Those are all policies that can undermine a country’s currency.

The dollar’s role as a reserve and pricing currency supports its value because it obliges governments and companies to hold or obtain dollars.

Bank of New York Mellon currency strategist Neil Mellor said the notion that Gulf states may look to reduce their dependence on the dollar is “potentially very significant indeed,” particularly as they share the dilemma with China over the value of their dollar holdings. Any move that undermines the dollars’ value would reduce the value of those extensive holdings.

‘Not even serious’

Over the last five years, the dollar has broadly fallen against many of its main competitors, leading to calls in dollar surplus countries, such as China and the Gulf states, for a greater diversification in their currency reserves.

As a result, talk of the dollar losing its price function is nothing new — in 2003, Russia moved its ruble peg to a two-currency basket of the dollar and the euro. During the oil price boom in recent years, Russia built up big dollar reserves because of its status as one of the world’s major producers.

Dimitry Peskov, spokesman for Russian Prime Minister Vladimir Putin, dismissed the newspaper report as “not even serious” but did reiterate Russia’s recent policy of multiplying the amount of reserve currencies “to ease the burden on a single world currency and save ourselves from another crisis.”

Meanwhile, China has taken stakes directly in energy and commodity producers in an attempt to diversify its dependence on the dollar.

Hans Redeker, global head of foreign exchange strategy at BNP Paribas, said Saudi Arabia, which has the biggest oil reserves, will be the key country when discussing which currencies oil should be factored in.

“What investors should not forget is that Saudi Arabia has an interest to keep the U.S. strong and involved in the region,” he said.

“Switching the dollar for a basket of currencies for commodity factoring would weaken the U.S. additionally, which would be against the interest of Saudi Arabia,” he added.

SOURCE: http://money.cnn.com/2009/10/05/markets/thebuzz/index.htm?section=money_markets.php

World Bank Says U.S. Dollar Not the Only Reserve Currency Option

By Glen Somerville
Market Watch

World Bank President Robert Zoellick said the United States should not take the dollar’s status as the world’s key reserve currency for granted because other options are emerging.

In excerpts released on Sunday from a speech that he is to deliver on Monday, Zoellick said global economic forces were shifting and it was time now to prepare for the fact that growth will come from multiple sources.

“The United States would be mistaken to take for granted the dollar’s place as the world’s predominant reserve currency,” he said. “Looking forward, there will increasingly be other options.”

Zoellick said that a meeting of Group of 20 rich and developing countries in Pittsburgh on Thursday and Friday had made “a good start” toward increased global cooperation but they will have accept global monitoring of their activities.

“Peer review will need to be peer pressure,” he said.

Zoellick said that the G20, as the new chief forum for international economic cooperation, also must not forget the 160 countries left outside its structure and should try to open opportunity for them.

“We need a system of international political economy that reflects a new multi-polarity of growth,” Zoellick said. It needs to integrate rising economic powers as ‘responsible stakeholders’ while recognizing that these countries are still home to hundreds of millions of poor and face staggering challenges of development.”

SOURCE: http://www.reuters.com/article/ousivMolt/idUSTRE58Q1YU20090928

Chinese Bond Sale Tests Global Demand

By Chris Nicholson
New York Times

China started selling yuan-denominated sovereign bonds in Hong Kong for the first time on Monday, testing international demand for its currency with the $879 million issue as it moves to widen the yuan’s exposure and appeal to markets abroad.

Bank of China and Bank of Communications, the two lenders managing the 6 billion yuan sale, said in news releases on Monday that the two-year bonds would have a yield of 2.25 percent, and the three-year bonds would yield 2.7 percent – higher rates than those offered to investors on the mainland.

Although no information was immediately available about how well the bonds were selling, analysts expected retail investors in Hong Kong would be interested in them.

The bonds are open to subscription until Oct. 20.

Zhi Ming Zhang, a currency analyst at HSBC in Hong Kong, cited investors’ “bullish feelings on the yuan,” even if officials in Beijing are not expected to allow the currency to appreciate until exports recover.

The Chinese yuan, also known as the renminbi, does not float freely against other currencies, but has its exchange rate set by the Chinese authorities.

U.S. officials have long called for a freer float for the yuan, since keeping it low gives Chinese exports an advantage against goods denominated in other currencies.

But the debt sale also faces hurdles. It is limited to investors who have renminbi accounts in Hong Kong banks, which curtails potential demand.

Hong Kong, the former British colony that has been a special administrative region of China since 1997, has its own currency, the Hong Kong dollar, which is pegged to its U.S. counterpart.

And Hong Kong investors, wary after a scandal involving Lehman Brothers bonds last year, are more conscious of risks and have been subscribing to bond issues more slowly than they used to, Mr. Zhi said.

The sovereign bonds are unsecured, and are “backed by the full faith and credit of the Central People’s Government of the People’s Republic of China,” according to the bank news releases Monday.

China’s National Day, the mainland equivalent of the Fourth of July in the United States, will be celebrated Thursday, and the timing of the sale may be an attempt to capitalize on patriotic sentiment among local investors.

The higher yields in Hong Kong – compared to mainland yields of 1.82 percent on two-year bonds, and 2.31 percent for three-years – should also help shore up demand.

In July, China made three government bond sales, and fell short of its targets each time.

At the ceremony kicking off the bond sale, Vice Finance Minister Li Yong said he believed “the yuan bond market will continue to develop and it will develop very quickly.”

Still, Mr. Zhi said he did not expect Beijing to make any further moves to introduce yuan-denominated bonds internationally after the sale, whose results will be announced Oct. 22.

China has been taking steps to promote the yuan in international markets this year, as the U.S. dollar has weakened and Beijing’s foreign currency reserves have slid in value.

SOURCE: http://www.nytimes.com/2009/09/29/business/global/29yuan.html?ref=global