Monday, September 18, 2006

Adrift in a Leaderless World

EUR/USD 1.2667 Hi 1.2687 Low 1.2628
USD/JPY 117.83 Hi 118.27 Low 117.22
AUD/USD 0.7520 Hi 0.7540 Low 0.7510
EUR/JPY 149.28 Hi 149.70 Low 148.21

George Bush is trying to make a strong case for upholding the U.S. right to torture prisoners, withhold evidence and generally take the world back to circa 500 AD. And if you don't like it you're irresponsible, unpatriotic and you'd better watch your back. So we have at least one guy on the world stage who knows exactly where he wants to take the world: back to the Middle Ages. Which for some people, maybe, was a pretty good place to be. Sackcloth will be the next big thing. The concentration of power and money in the hands of the few, the re-emergence of religious dogma as a guiding political force and political leaders who have an absolute certainty that their vision is guided by GOD. You have to hand it to Bush at least he is completely consistent.

Otherwise leadership is thin on the ground. The G-7 shindig which took place in Singapore this weekend provided little guidance for financial markets. There were no harsh words and no clear statements. Noticeably absent was the call for stronger Asian currencies, although there was some fudging along the lines that "nations with LARGE CURRENT ACCOUNT SURPLUSES, notably China, need to allow greater exchange rate FLEXIBILITY". Which means they need to allow their currencies to appreciate. A LOT. There was no mention of nations with LARGE CURRENT ACCOUNT DEFICITS. Though the corollary to the G-7 statement would be that nations with large current account deficits need to allow similar flexibility. Which would mean devaluation. But no-one mentioned that particular elephant in the lounge room. It's a topic which is, let's say, somewhat delicate. Paulson obviously knows the risks and preferred to let the matter slide. Although it would be interesting to know what is Paulson's definition of "vigorously doing its part" with regard to the Federal Government's Deficit.

With the U.S. status as a Super Power much diminished and the huge U.S. external funding requirement there for all to see, there was not much leeway for forcing through a new Plaza Accord. For now Japan and China get to decide their own exchange rate policy. If Asia wishes to continue its policy of accumulating an embarrassing quantity of FX reserves, that is their choice. Right now the U.S. is not in a position to turn the heat on Asian Central Banks and force them to cut off U.S. capital inflows. And so the party continues. For as long as the USD remains relatively stable, there is no major risk to global financial markets.

This week the FED meets. No change is expected in monetary policy. The ECB meets a little later and ECB spokesmen have been falling all over each other recently to impress on the public the fact that MORE RATE HIKES are coming. And coming. And coming. All the way through 2007. So far FX Markets have ignored both. The EUR/USD is still in the range it's been stuck in since early June. The lack of follow through on the upside and the ECB's attempt to cap the EURO against the JPY is making headway difficult. The failure of the G-7 to call clearly for an appreciation of the YEN and the Chinese Yuan has encouraged the USD/JPY bulls and the carry trade is back on. Fundamentals aren't supportive but, for now speculators are in control of the market.

OIL 63.65
GOLD 587.10

The big question on commodity markets is: have all the speculators (who were long commodities) been stopped out yet ?? The answer is unclear. Further falls in the price of OIL will require economic weakness to be confirmed in the United States. And GEOPOLITICS will need to stay off the front page. The Europeans are forging ahead with talks with IRAN, which is good news. Although Bush and his war mongers are not happy. So it might not be time to get too happy clappy about developments in the Middle East.

GOLD remains the anti-Dollar. While speculative selling pressure may see a further test of the downside the longer term outlook for the precious metal remains positive.

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