Key News
• Key Reports Due (WSJ):
7:45a.m. ICSC Store Sales Index For Mar 24. Previous: +0.4%.
8:55a.m. Redbook Retail Sales Index For Mar 24 Wk. Previous: +0.5%.
10:00a.m. Mar Conference Board Consumer Confidence. Expected: 108.0. Previous: 112.5.
10:00a.m. Mar Richmond Fed Manufacturing Index. Previous: -10.
5:00p.m. ABC/Wash Post Consumer Conf For Mar 25 Wk. Previous: -5.

Quotable

“No matter how rational the original decision was to enter a trading position, the very act of dealing moves an individual into a less rational, crowd-type environment.  Specifically, the investor accepts one of the two crowds’ beliefs about the future trend in prices, and identifies strongly with other members of that same crowd.  He or she becomes a committed crowd member.”

  Tony Plummer

FX Trading – Global Growth Question Time

One of the key questions currency traders are wrestling with: Can global growth remain on track if the US doesn’t play the role as lead engine? 

If the answer is yes, than it’s like more bad news for the dollar—and good news for the euro and a slew of other currencies.  But the jury is still out on that question.
Players who believe in the global growth story ex-US point to Germany’s relatively strong cyclical momentum.  Confidence continues to rise among the business sector in Germany despite a recent hike the country’s VAT (value added tax) and an already strong currency that’s likely pressuring the price of German exports e.g. cars and machine tools.

Today’s new on business confidence as reported by Bloomberg; the euro is slightly higher this morning:
“German business confidence unexpectedly rose in March, a sign Europe's largest economy has overcome a sales-tax increase and can withstand a U.S. slowdown.

“The Munich-based Ifo institute said its sentiment index, based on responses from 7,000 executives, rose to 107.7 from 107 in February. Economists expected a drop to 106.5, according to the median of 46 estimates in a Bloomberg News survey. The index reached 108.7 in December, the highest since records for a reunified Germany began in 1991,” Bloomberg reported.

Germany, and the euro zone, is sending an increasing share of their exports to China (an vice versa).  And China is chugging along nicely, with no let up in sight.  So even if the US economy heads into the hopper, China and Europe can go it alone.

Not so fast say the global growth ex-US pessimists.  Morgan Stanley’s Stephen Roach leads the charge here:

“As the US economy slows, most believe that Asia’s growth machine will fill the void.  Don’t count on it.  Policy makers in China and India are shifting toward restraint, tilting growth risks in the region’s fastest-growing economies to the downside.  Nor is an externally-dependent Japanese economy likely to provide much compensation.  To the extent the case for global decoupling is dependent on an Asian offset, prepare to be disappointed.

“The Asian offset, in conjunction with a modest cyclical uplift in a long sluggish European economy, is the essence of the case for global decoupling – a world economy that has finally weaned itself from the great American growth engine.  A key presumption of that conclusion is that Asia can stay its present course.  There are two flaws in that argument, in my view – the first being that internal pressures are now building in Asia’s fastest-growing economies that could be sowing the seeds for slower growth ahead.  In particular, both the Chinese and Indian economies are now displaying worrisome signs of overheating.

“There is a second factor at work that is also likely to challenge the view that hyper growth is here to stay in Asia – the region’s persistent reliance on external demand as a major driver of economic growth.  This is less a story for India, with its relatively small trade sector, and more a story for the rest of Asia.  China is at the top of the external vulnerability chain.  Its export sector, which rose to nearly 37% of GDP in 2006, surged at a 41% y-o-y rate in the first two months of 2007.  Moreover – and this is an absolutely critical point in the decoupling debate – the United States is China’s largest export market, accounting for 21% of RMB-based exports.  As the US economy now slows, the biggest piece of China’s export dynamic is at risk.”

The problem with speculating on sustainability of global growth, from the currency perspective, is that it seems to raise more questions than it answers.  At what point will a falling dollar become self-defeating for Europe, as the Chinese yuan moves lower relative to the euro in almost lock-step as the buck falls?  What’s the lag between a sharp US deceleration and its impact on Europe or China?  And just how “high” are the expectations among currency players that Europe’s growth momentum is sustainable?  And if Europe’s growth is derailed, in a global fashion, does it then raise the spectre of more turmoil within the European Union (read Italy)?  And if China surprises on the downside, does that spook an inordinate amount of funds out of the emerging markets that at the moment are happily invested there based on the “solid fundamentals”? 

We can create scenarios.  But let’s not kid ourselves into believing we can “forecast” this stuff. Questions and scenarios abound!  We think the best we can do is to watch expectations of the players and how reality in the world plays out against those expectations; that’s where our likely best clues will lie. 

Jack Crooks
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Reader Response from yesterday’s Currency Currents:

“Years ago, when local banks found themselves holding bad loans (often based on local economic conditions),  they had to limit all lending, including to creditworthy borrowers - and those worthy borrowers had nowhere else to turn. Now, interstate competition and even international competition have made it almost irrelevant if a particular lender goes belly-up. There are always other healthy financial firms ready to seize market share from troubled ones, or buy assets at fire sale prices. Moreover, the world is awash in liquidity, interest rates are low, and the Fed is still accommodative – not tight like it was in 1999-2000 prior to the stock market crash."

RR: I don’t know about this.  Given that FNMA writes around 50% of US mortgages and that another 30% or so are done “on FMNA paper”, the recent changes which essentially prohibit no-doc loans will have impacts far beyond the so-called subprime borrowers.  The effective monopoly which FNMA has over terms and conditions of home loans in the USA makes the effective market more concentrated, not less.

The news media often displays a special cluelessness when they mistake low interest rates for “easy money”, and when they confuse high interest rates with “tight money”.  If they won’t give you the loan, then the nominal interest rate is irrelevant.

While I agree that most of the housing market will not be directly affected, we still have to ask what the impact of a 10-20% reduction in loan approvals will be, and we have to ask what a 30-50% reduction in new home starts would do to the general economy.

D. C.

Thank you DC!