FYI | Oct 12 2007
By Rudi Filapek-Vandyck
Yes, life only has two absolute certainties -death and taxes- and possibly the fact that the sun will rise again tomorrow morning, but come October 2007 the global financial community is increasingly facing two certainties that only seem to become more certain as time passes by: the US economy will slow down and the US dollar will weaken, and weaken, and weaken.
Even experts at North American brokerages and financial institutions, never so inclined to jump on the bandwagon of a long term currency decline, are showing no restraint in indicating they have joined the US dollar bear team these days.
Wachovia global economist Jay H Bryson has been giving some presentations in the US recently and the central message is that the US dollar has only one way to go from here: south.
This, of course, is a longer term view and doesn’t take into account that short term movements tend to be less predictable and can often take even the most experienced experts by surprise.
But skip the weekly or monthly outlooks and the trend will remain for a US dollar in declining value, says Bryson. As you would expect from an economist, his presentation looks in the finer detail of many, many factors that could possibly move the currency. Such as the current account deficit (which has improved but is nevertheless expected to remain very, very large) and purchases of US Treasuries by foreigners (expected to decline).
Wachovia has definitely not joined the bears when it comes to US economic growth as it has currently penciled in 2.0% for this year (that figure is gradually becoming consensus), but 2.5% for 2008 and 2.9% for 2009. Forecasts for nearly all other economies, including the UK and China, are for slower growth in 2008, with the odd exception such as Mexico.
Underpinning this view is the expectation the US Federal Reserve will cut rates some more while the rest of the world will remain on hold. While this is good news for the US economy (see previous paragraph) it is poised to turn out a near assassination of the US dollar. Adverse interest rate dynamics are expected to continue weighing on the value of the greenback and this explains why Wachovia appears to be convinced there’s no way but south for the US dollar in the years (multiple) ahead.
Let’s talk concrete figures.
On Wachovia’s forecasts, and everyone should take into account that currency forecasts are almost always incorrect from the moment they are made public, the euro should gradually appreciate and reach 1.50 US dollars by 2009.
By then (Q3 2009) the Aussie dollar should be at US$0.94, the pound at US$2.10 and the Japanese Yen at 104 yen to the dollar. The fact that two pages of major and emerging markets currencies forecasts do not contain one single currency that is expected to devalue against the greenback in the next eight quarters may serve as an indication of how deeply entrenched the trend is in Wachovia’s economic universe.
Two further comments stand out in Bryson’s presentation: placed inside a macro-framework the meltdown of the US dollar remains small and there is a chance the currency might surprise to the upside if global risk appetite would turn rampant again. Were this the case it should be considered a temporary effect only, the presentation suggests.
Penciling in a weaker US dollar for the foreseeable future has become a global trend recently. We note, for instance, that this prospect was flagged on the day of the Fed 50 basis points rate cut by well-regarded market commentator Marc Faber.
Economists at Commonwealth Bank have also updated their currency forecasts. The bank now expects the Aussie dollar to trade at US$0.9250 by year end and at US$0.95 by mid-2008. The previous end 2007 forecast stood at US$0.89.
CommBank remarks that historic analysis suggests the US dollar will not be able to resist the downward pressure as long as the real Eurodollar interest rate remains below 3.25%. This is seen as unlikely until the Fed starts raising interest rates again. CommBank believes we’re currently at least nine months away from such a prospect.
It has to be noted that formidable trends such as the one we appear to be experiencing have a real chance of overshooting. The least one can conclude from all of the above is that the Aussie dollar at parity with the greenback doesn’t seem such an illusive prospect anymore.
