US itself is accelerating the de-dollarization process
De-Dollarization and the Fall of American Hegemony
Ever since the Fed ended its ultra-loose monetary policy and turned to a radical rate hike approach, the international financial market has been in turmoil with many currencies depreciating sharply. That has forced many countries to diversify their foreign exchange reserve assets. – AP
MARKET expectations for the Federal Reserve to end interest rate hikes have picked up as core inflation data in the United States has dropped and the University of Michigan’s consumer confidence index fell from 67 in February to 62 in March – yet worries abound about the outlook for the US economy.
Former US Treasury secretary Larry Summers said recently that it is too early to say that the US has shaken off the financial woes caused by its rapid interest rate hikes. The US economy is likely to experience a serious recession as a result of the recent banking crisis, with little chances of a “soft landing”. With recession expectations picking up, the factors supporting a strong US dollar are disappearing.
Ever since the Fed ended its ultra-loose monetary policy and turned to a radical rate hike approach, the international financial market has been in turmoil, with many currencies depreciating sharply. That has forced many countries to reduce holdings of US Treasuries, diversifying foreign exchange reserve assets.
In mid-march, Russia’s central bank reported that the ruble and “friendly” currencies together accounted for 52% of Russian export settlements at the end of 2022, surpassing the share of the US dollar and euro for the first time on record.
The members of Asean agreed at the end of March to strengthen the use of local currencies in the region and reduce reliance on major international currencies in cross-border trade and investment. On April 1, India and Malaysia agreed to settle trade in Indian rupees.
Data show that the proportion of US dollar reserves and assets in global central banks’ foreign exchange reserves has dropped from 65.46% in the first quarter of 2016 to 59.79% in the third quarter of 2022.
Despite its declining status, the US dollar still accounts for the largest share of global trade settlement, central banks’ foreign exchange reserves, global debt pricing, and global capital flows. However, the abuse of the US dollar hegemony has led many countries to launch a “de-dollarisation” campaign. The more the US dollar is used as a weapon, the faster it will be abandoned by other countries.
It’s unrealistic that some in the United States want to safeguard the benefits brought by the US dollar as a leading international currency, but don’t want to shoulder corresponding international responsibilities. – China Daily/Asia News Network
“This is all part of a broader discussion of possibilities for reducing the use of the dollar. This discussion is not new and has happened in the past but it appears to be more serious now and the actual changes are taking place,” - Prof Geoffrey William
Of late, the hot topic that is rapidly gaining pace is many countries, including Malaysia, are mulling the idea of reducing their trade dependency on the US dollar.
Prime Minister Datuk Seri Anwar Ibrahim has also lent heavy support to the thought of reducing Malaysia’s dependency on the greenback in terms of attracting foreign direct investments into the country, as well as in bilateral trades not involving the United States.
This came as Anwar announced on Tuesday that investments worth about RM170bil by China-based companies would be kicking off next month.
The prime minister has also last week proposed the setting up of an Asian Monetary Fund (AMF), stressing the need to lower reliance on the greenback as well as the US-backed International Monetary Fund (IMF), an idea that he himself reported has been well received by Chinese President Xi Jinping, who is open to discussing its implementation.
According to Geoffrey Williams, economics professor at Malaysia University of Science and Technology (MUST), what Anwar was saying is in line with a growing group of international leaders seriously questioning the role of the dollar and the US/European Union systems, hence the prime minister’s comment is a change of tone with possible action points.
“This is all part of a broader discussion of possibilities for reducing the use of the dollar. This discussion is not new and has happened in the past but it appears to be more serious now and the actual changes are taking place,” Williams told StarBiz.
He concurred with Anwar’s view that bilateral trade between two nations could use the currencies of the countries involved instead of the dollar, calling it “feasible” and is in fact growing in popularity.
“Most commodities are priced and traded in dollars but direct sale of oil between Russia and China as well as India is circumventing that arrangement.
“There is an increasing probability this will extend to more countries and more commodities,” Williams said.
Some parties have even suggested that Anwar may not be taking any sides in the global balance of power between China and the United States, despite his preference for dollar independence.
However, uneasiness remains on the geopolitical implications of the suggested move and how it will affect relationships between countries such as Malaysia and the United States as well as its allies.
While acknowledging such concerns, Williams said: “At the moment, many countries are understandably questioning whether the dollar dominance is beneficial to them and if better exchange arrangements could be found.”
Meanwhile, economist and chief executive at Centre for Market Education, Dr Carmelo Ferlito, said that while countries can ponder over better options in a multipolar world, alternatives need to be weighed in with painstaking care.
Ferlito said the appearance of the euro in 1999 was met with a warm welcome since it forced the dollar to face a competitor characterised by stronger monetary discipline, and that the emergence of something new in the East, if properly conceived, could strengthen the path towards monetary stability.
However, he added: “If global currency competition were to move in the right direction, the path will remain incomplete without an actual competition between currencies within countries.
“A competition that enables individuals to choose the currency to be used for their daily transactions, favouring the emergence of a virtuous competition among currencies toward stability.
“Our point is thus that the new and vibrant developments in the international monetary scene can be a source of benefit – rather than spawn geopolitical tension – only if accompanied by a true opening of national economies to competition among available currencies.
A novel Asean or BRICS (Brazil, Russia, India, China and South Africa) currency could become a strong alternative
“In this way, a novel Asean or BRICS (Brazil, Russia, India, China and South Africa) currency could become a strong alternative not as the result of a political will of power but simply as a consequence of market competition.”
On the setting up of an AMF, MUST’s Williams said such an idea is definitely attainable but would require participation across many Asian countries, especially to provide the finance and to agree to the terms on which access to that finance is made available.
As such, he remarked that it is not just a financial matter but also a geopolitical one.
“The main issue is who will fund the AMF and what will be the contribution rates for each member.
“It is likely that most will come from China, unless Japan and South Korea joins in. Otherwise most Asian countries are too small to contribute much.
“Ultimately, this will be driven by economic cost-benefit considerations and whether non-aligned countries like Malaysia can maintain good relationships with all parties without using the dollar,” he noted.
On the other hand, the move to bilateral currencies for trade and investment between two countries, while feasible, would be more at risk to exchange fluctuations and liquidity issues, Williams said, adding that this could be improved by a switch to multiple currency options.
Of note, and on something that has not been touched by Anwar, the economics professor said the dollar still provides stable, reliable and secure financial systems such as the Society for Worldwide Interbank Financial Telecommunication (SWIFT).
“Cybersecurity is essential and the questions of geopolitical stability also arise but these may not be solved by breaking up international systems into smaller regional systems,” he said.
There certainly has been an influx of recent activities geared towards reducing the use of the dollar in international trade, such as the discussions between Brazil and Argentina to create a common currency or Saudi Arabia declaring its openness to trade in other currencies other than the greenback for the first time in 48 years.
But the fact that the International Monetary Fund data shows central banks worldwide are still holding about 60% of their foreign exchange reserves in dollars as at the fourth quarter of 2022 literally means it is extremely unlikely the currency would be losing its status as the global reserve unit anytime soon.
WITH the ringgit passing the RM4.50 mark to the mighty US dollar, questions have been asked as to where the ringgit is headed, as it has dropped almost 9% year-todate and at a level last seen during the Asian Financial Crisis in 1998 – almost a quarter of a century ago.
“See you at five” – a term coined during the crisis time, is being re-played like a broken record as speculation mounts that the ringgit will hit the unthinkable five handle to the dollar in future.
However, as we are aware, the ringgit is not to be entirely blamed for its weakness, as there are other factors that are playing out.
If one were to analyse carefully, the ringgit is in actual fact firmer against the Japanese yen by about 12.5%, up 7.2% and 7.1% against the British pound and the South Korean won respectively; between 0.9% and 3.8% higher against the Chinese yuan, Thai baht, Philippine peso and the euro.
Other than the US dollar, the ringgit is only weaker against the Australian dollar, Indonesian rupiah, and the regional champion, the Singapore dollar by between 1.1% and 4.5%.
Hence, overall, for the performance year-to-date, the ringgit may look like a weak currency as we are fixated on comparing the ringgit’s performance against the US dollar as well as the Singapore dollar, but in actual fact, the ringgit has outperformed at least seven other major and regional currencies.The strength of the US dollar cannot be denied as the Federal Reserve (Fed) is battling hard against high inflation prints and is left with no choice but to raise the benchmark Fed fund rate (FFR).
Having raised 225 basis points or bps so far this year, the Fed is now poised to increase the FFR by another 75 bps in the September Federal Open Market Committee (FOMC) meeting next week, with odds of 100 bps too not being ruled out at all.
This was after the headline and core US inflation prints came in at 8.3% and 6.3%, and ahead of the market forecast of 8.1% and 6% respectively. Should the FOMC raise the FFR by 75 bps next week, the market is pricing in another 75-bps hike in the November meeting and a 50-bps increase in the December meeting.
This will take the FFR to 4.25%4.50% and bring the 2022 rate hikes to 425 bps. With the US 10-year treasuries at 3.43%, the yield spread between the Malaysian benchmark 10-year Malaysian Government Securities has narrowed to just 72 bps from 209 bps at the start of the year.
Indeed, the divergence in the monetary policy adopted by the Fed has a significant impact on the ringgit too.
Another key factor that the ringgit seems to be suffering is the correlation between the ringgit and the yuan. Both currencies removed the dollar-peg in July 2005, with Kuala Lumpur following suit right after Beijing’s move. Since then, the ringgit seems to have a high correlation with the yuan.
Year-to-date, although the ringgit is up 0.9% against the yuan since the start of the year, the ringgit’s movement against yuan has been relatively flat over the past five years with the local currency down by 0.4% compared with a year ago, and 1.2% over the past five years.
The yuan has also been weaker against the US dollar, as the Chinese economy has not been doing well since China’s zero tolerance towards Covid-19 cases, which has resulted in major cities or regions going into short-term lockdowns. The yuan even hit a fresh two-year low, flirting with the seven handle against the US dollar.
Other factors too are playing out on the ringgit weakness, although we are fortunate that we continue to run a current account surplus, we have been running budget deficits for nearly a quarter of a century.
This has ballooned our federal government debt level to the extent that we have even moved the needle to ensure we remain within the redefined debt/gdp ratio.
Malaysia also has an over-dependence on foreign workers, which continues to weaken the ringgit with a high level of foreign remittances as well as a deficit in our services account and net outflows from primary income.
In addition, Malaysians investing abroad is another strain on the ringgit, while errors and omissions too can be a large contributor to the ringgit’s weakness as well.
As measuring a currency is all relative, it is understandable when the general public refers to the ringgit’s strength or weakness as “only” when compared with the US dollar and to a certain extent, the Singapore dollar.
Chart 1 shows the relative performance of the ringgit against the major global and regional currencies.
It can be seen that much of the weakness against the US dollar and the Singapore dollar occurred this year itself, while against the pound, euro, yen, won, baht and peso, the ringgit has been gaining ground not only year-to-date but also over the past year and five years.
Against the Australian dollar and rupiah, the ringgit has recouped its weakness against the two currencies with a stronger performance year-to-date.
While the picture looks respectable over the past five years, data going back over a 10-year and 15-year period, suggests that the ringgit has significantly underperformed.
Chart 2 shows the performance of the ringgit vis-à-vis the major global and regional currencies.
As seen in Chart 2, over a 10-year horizon, ie, from mid-september 2012 to the present, the ringgit is only firmer when compared with the yen (19.1%); Australian dollar (5.1%) and the rupiah (5%).
Against all the other currencies, the ringgit is weaker by between 6% against the pound to as much as 49.1% against the US dollar.
Over a 15-year horizon, the ringgit was also seen as weaker as it was down by between 4.5% against the yen and Australian dollar to as much as 40% against the Singapore dollar.
The ringgit is only firmer against the pound (25.6%); rupiah (18.1%); won (13.3%) and the euro (6.2%).
Another comparison is the performance of the ringgit since it was de-pegged on July 21, 2005.
Here one can observe that while the ringgit is down 41.3% since then against the yuan and 19.3% against the US dollar, it is firmer against other major currencies, rising by 1.9% against the euro, 6.4% against the yen and 21.3% against the pound.
Regionally, although the ringgit is up more than 20% against the rupiah, the ringgit is down significantly against other regional currencies.
This is sharpest against the Singapore dollar with about 42.7% depreciation, 35.7% against the baht, and 16.5% against the peso.
As currencies are valued on a relative basis by comparing one currency with another, an alternative approach is to look into the real effective exchange rate (REER) which takes into account the weighted average of a currency in relation to an index or a basket of other major currencies. The weights are based on comparing the relative trade balance of a currency against each country in the index.
REER data is provided by the Bank of International Settlement (BIS) monthly and Chart 3 summarises Malaysia’s REER performance since the de-pegging days, plotted against the US dollar.
The chart shows a highly correlated chart whereby the correlation was observed at -0.95, suggesting that REER has a significant impact on the value of the US dollar-ringgit exchange rate.
A tough question as the valuation of a currency is always seen as a relative point to another currency while the strength/weakness of one currency can also be attributed to the relative weakness/strength of another currency.Nevertheless, if one were to gauge the REER as a reference point, the ringgit is effectively undervalued by approximately 16.8%, as a neutral REER should be at the 100.00 index point level.in
At this level, the ringgit’s fair value is approximately RM3.89 to the US dollar. However, the REER has always been trading below the 100 index point level, except for a brief occasion between April 2010 and August 2011; in February/march 2012; and between November 2012 and May 2013.
In July 2011, the ringgit traded at its post de-pegging high of RM2.9385 before succumbing to weakness due to multiple reasons.
Bank Negara’s international reserves begin to weaken from a peak of Us$141.4bil (or Rm435.5bil) as at May 2013 at a time when the ringgit was trading at RM3.08 to the dollar and the REER was at its peak of 104.11 points.
However, if one were to take the average REER of 93.34 points over the past 17 years, the ringgit has a fair value of RM4.17 to the dollar.
Hence, while the ringgit has weakened considerably against major currencies, especially since its de-pegging days, the local currency remains an undervalued currency by between 8.9% and 16.6%.
While the ringgit is seen as weak against the US dollar and Singapore dollar, it has outperformed against other major currencies like the euro, pound and yen.
Over the longer term, Malaysia needs to address the serious structural issues that have made us less competitive than our neighbours. Top of the list is education reforms which should be addressed quickly as we are losing out our young bright minds via migration.
One of Malaysia’s biggest losses is the brain drain that has benefitted many countries, especially Singapore, Australia and even as far as the United States.
The second issue that Malaysia needs to address is to attract right-minded high-skilled knowledge workers as well as the ability to attract the right investment dollars into Malaysia.
The spill-over effect from an investment-friendly country is multiple, as it can help to lift Malaysia’s competitiveness not only in traditional fields but new robust industries related to the technology and services industry.
Third, Malaysia needs to address the current low wage levels of Malaysians as we cannot be a high-income nation if 50% of Malaysians are earning less than RM2,100 per month.
There must be a concerted effort to increase wages, which will indirectly address not only the rising cost of living but increase the affordability as well as tax revenues of the government.
Fourth is our fight against corruption. It is a known fact that a low ranking in Transparency International’s Corruption Perception Index is highly correlated to the cost of doing business.
Malaysia needs to make greater efforts to weed out the corrupt practices, both in the government and in the private sector to enable Malaysia to be better position to not only attract the right global investors but to reduce the cost of public spending, which eventually leads to a lower cost to consumers.
Finally, it’s the politics and public policies that come with it. We must not only be investor friendly but must avoid flip-flopping policies that can cause serious irreparable damage to our reputation in the eyes of the world.
Public policies too must be cleverly crafted with the right inputs from all stakeholders to enable Malaysia to march forward as one.
Only then, we will see a stronger ringgit not only against the currencies that Malaysia has outperformed but also against the mighty US dollar and Singapore dollar
Jerome Powell
Photographer: Andrew Harrer/Bloomberg
Currency Traders on Front Line as Markets Stay Wary of U.S. Risk
The final week of 2018 could prove tumultuous for investors as holiday-thinned trading combines with a growing array of pressures on markets.
Traders in the $5.1 trillion-a-day currency market were among the first to respond to a partial U.S. government shutdown and a report that President Donald Trump has discussed firing Federal Reserve Chairman Jerome Powell. The dollar slipped against its Group-of-10 peers, while the yen, seen by many as a haven, gained for a seventh day.
Treasury futures climbed in early Asian hours before paring their advance. Cash bonds trading was shut in Asia due to a holiday in Japan, the first in a week that will see a number of closures across major markets.
Sentiment in global financial markets has already taken a beating with the S&P 500 Index just recording its worst week in seven years. Increased uncertainty over the leadership of the Fed could add to turmoil along with a partial shutdown of the U.S. government, although assurances from U.S. Treasury Steven Mnuchin about liquidity and the future of the central bank chief may ease some concerns.
The Treasuries yield curve last week moved closer than ever to its first post-crisis inversion and the rally in safer assets dragged the 10-year yield below 2.75 percent for the first time since April. However, given that much of the upheaval is emanating from the U.S., it is not entirely clear whether Treasuries, and also the U.S. dollar, will act as reliable havens should Powell’s leadership face a genuine threat.
Societe Generale SA’s head of U.S. rates strategy Subadra Rajappa said she thinks a change in Fed leadership is “extremely unlikely,” though she’s not ruling out the possibility of the president persuading Powell to “resign.”
“If it comes to that, given the backdrop of the recent government shutdown, investors might be less inclined to treat Treasuries as safe haven assets,” she said by email. “A change in Fed leadership will likely rattle the already-fragile financial markets and further tighten financial conditions.”
Market participants are generally of the view that Powell will not be fired, and senior administration officials say Trump recognizes he doesn’t have that authority. But even continued exploration of the possibility could make for a volatile week.
The market response to a material threat to the Fed’s independence would be complicated, according to Steve Englander, head of global G-10 FX research and North America macro strategy for Standard Chartered Bank. He said near-term uncertainty over the process and politics in a fluid situation would weigh on equity prices and bond yields. The dollar, he said, would likely face multiple opposing forces, but the “near-term response is likely negative on the risk that U.S. economic policy becomes more erratic.”
Kitchen Sink
The Bloomberg Dollar Index was up more than 4 percent in 2018 at the end of last week and is close to its highest level in a year and a half, while the Japanese yen surged around 2 percent last week versus the greenback.
Chris Rupkey, chief financial economist at MUFG Union Bank in New York, is among the few eyeing the strained relations between the president and the Fed chair with equanimity.
The stock market “has discounted everything but the kitchen sink, including the loss of a Fed Chair who hasn’t been in office for even a year yet,” he said by email.
Given that the Fed is already close to the end of its hiking cycle, the markets won’t melt down if Powell leaves office, according to Rupkey. “They already did,” he said.
Those on the front lines of this week’s opening trade say markets are on a knife edge.
Mind the Machines
“If equity markets fall further, they’re going to set off machine-based selling,” said Saed Abukarsh, the co-founder of Dubai-based hedge fund Ark Capital Management. “The other risk is that experienced traders are on holiday, so the ones left will be trigger happy with every new headline.”
“I can’t see buyers stepping into this market to stem off any selling pressure until January,” said Abukarsh. “So if you need to adjust your books for the year-end with any meaningful size, you’re going to have to pay for it.”
Trump’s two-year stock honeymoon ends with hunt for betrayer
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Nobody was happier to take credit for surging stocks than Donald Trump, who touted and tweeted each leg up. Now the bull is on life support and the search for its killer is on.
And while many on Wall Street share the president’s frustration with the man atop his markets enemies list, Federal Reserve Chairman Jerome Powell, they say Trump himself risks making things worse with too much aggression when equities are one bad session away from a bear market.
“You would think that after coming off of the worst week for the markets since the financial crisis in 2008, he would look to create some stability,” said Chuck Cumello, CEO of Essex Financial Services. “Instead we get the opposite, with this headline and more self-induced uncertainty. This coming from a president who when the market goes up views it as a barometer of his success.”
U.S. stock futures whipsawed Monday and were little changed after swinging from a 0.9 percent gain to a loss of the same magnitude. The equity market closes at 1 p.m. in New York ahead of the Christmas holiday.
Click here to see all of Trump’s tweets on the economy and markets.
Attempts by Treasury Secretary Steven Mnuchin to reassure markets that Powell wouldn’t be ousted appeared to have largely removed that as an immediate concern for traders, but the secretary’s tweet Sunday that he called top executives from the six largest U.S. banks to check on their liquidity and lending infrastructure added to anxiety.
To be sure, equities remain solidly higher since Trump took office. Even with its 17 percent drop over the last three months, the S&P 500 has risen 18 percent since Election Day. The Nasdaq Composite Index is up 25 percent with dividends. True, volatility has jumped to a 10-month high, but market turbulence was significantly worse for three long stretches under Barack Obama.
The S&P 500 slumped 7.1 percent last week and the Nasdaq Composite Index spiraled into a bear market. As of 2:31 p.m. in Hong Kong, futures on the S&P 500 were up 0.6 percent while Nasdaq 100 contracts added 0.5 percent.
While Trump seems to have found his villain in Powell, blame is a dubious concept in financial markets, as anyone who has tried to explain the current rout can attest.
Along with the Fed chairman, everything from rising bond yields, trade tariffs, falling bond yields, Brexit, tech valuations and Italian finances have been implicated in the downdraft that has erased $5 trillion from American equity values in three months.
Whatever’s behind it, nothing has been able to stop it. And while many on Wall Street credit the president for helping jump-start the market after taking office, they say he should look in the mirror to see another person creating stress for it right now.
“Trump was gloating how much good he had done for the economy and the market. Now he’s blaming Powell for the decline instead of himself,” said Rick Bensignor, founder of Bensignor Group and a former strategist for Morgan Stanley. “Half his key staff has been fired or quit. The markets are off for a variety of reasons, but most of them have Trump behind them.”
If Trump is bent on getting rid of Powell, there may be ways of doing it that don’t risk kicking a volatile market into hysteria, said Walter “Bucky” Hellwig, a senior vice president at BB&T Wealth Management in Birmingham, Alabama.
“It doesn’t have to be firing, it could be someone else taking Powell’s job. That could be a net positive for the markets,” Hellwig said. “A friendly change in the head of the Fed may cause some turbulence short-term but it may be offset with the markets repricing the risk associated with two rate hikes in 2019.”
For now, the turmoil shows no signs of letting up. In the Nasdaq 100, home to tech giants like Apple Inc. and Amazon.com, there have been 17 sessions with losses greater than 1.5 percent this quarter, the most since 2009. Small caps are down 26 percent from a record, while the Nasdaq Biotech Index has dropped at least 1 percent on seven straight days, the longest streak since its inception in 1993.
It’s been a long time since anyone in the U.S. has lived through this protracted a decline. Including Trump.
”It’s impossible to tease out what the proximate causes are,” said Kevin Caron, a senior portfolio manager at Washington Crossing Advisors. “The normal ebb and flow of financial markets are all part of the mix. It’s impossible just to point to the chairman as the only input.”
Losing streak: The greenback finished the first half of 2017 on a four-month losing streak – the longest such stretch since 2011. – AFP
After the worst start to a year for the greenback since 2006, the end of the first half couldn’t come quick enough for the dwindling ranks of dollar bulls. Yet if history is any guide, it could soon get even worse.
A week that’s certain to get off to a slow start with U.S. markets closed Tuesday will culminate with Friday’s jobs report. The release hasn’t been kind to those wagering on greenback strength. The Bloomberg Dollar Spot Index has slumped in the aftermath of nine of the past ten, despite above consensus reports as recently as February, March and May.
“The dollar has not been responding to positive data surprises, but continues to weaken substantially on negative news,” said Michael Cahill, a strategist at Goldman Sachs. “As long as that persists, the risks are skewed to the downside going into every data release.”
The greenback finished the first half on a four month losing streak -- the longest such stretch since 2011 -- wiping out its post-election gain. The currency’s 6.6 percent decline in the six months through June were the worst half for the dollar since the back end of 2010. Unraveling optimism around the Trump administration’s ability to boost fiscal growth has outweighed Fed policy or positive data, according to Alvise Marino, a strategist at Credit Suisse.
“What’s happening on the monetary policy front is not as important,” said Marino. “It’s more about the dollar remaining weighed down by the unwinding of financial expectations.”
The sudden hawkish tilt by global central banks hasn’t helped. The dollar weakened more than 2 percent against the euro, pound and Canadian loonie last week as officials signaled a bias toward tightening monetary policy.
Yet there are reasons for optimism, according to JPMorgan Chase analysts led by John Normand, who recommended staying long the greenback in a June 23 note. A cheap valuation relative to global interest rates, the market underpricing the likelihood of another Fed hike this year, and a still positive growth outlook make for a favorable backdrop to motivate dollar longs in an “overstretched” unwind, the analysts wrote.
Hedge funds and other speculators disagree. They turned bearish on the dollar for the first time since May 2016 last week. Wagers the greenback will decline outnumber bets it’ll strengthen by 30,037 contracts, Commodity Futures Trading Commission data released Friday show.
In the lead-up to January 20 when Donald Trump becomes US president, Asians are guessing about the outlook for their savings.
Trump is particularly difficult to read because he made so many wild statements on the campaign trail. Everyone accepts that campaigning politicians promise heaven and deliver mostly hell, but when they win elections, most become much more sober. So far, it looks like Trump’s policy will follow his campaign threats.
The Trump presidency will be bi-polar – either highly successful if he reboots American dynamism, or one that may bankrupt the country trying, including getting involved in another war.
His rise to power has been accompanied by wild swings in investor mood as markets yo-yo from hesitation to rally, with the Dow currently peaking.
So far, Trump family members appear to have more clout than was the case with any previous , with perhaps the exception of President Bill Clinton.
Disappointingly, the favourite to be Trump’s treasury secretary is ex-Goldman Sachs banker Steven Mnuchin, which means Wall Street would have another insider running the status quo. It remains to be seen whether he can simultaneously deliver the promised spending on infrastructure, tax cuts for the rich and containment of effects of a stronger dollar.
All signs are that the dollar will strengthen, bringing echoes of the famous phrase, “my dollar, your problem”. In its latest health check on the US economy, the International Monetary Fund reported in June that “the current level of the US dollar is assessed to be overvalued by 10-20 per cent and the current account deficit is around 1.5-2 per cent larger than the level implied by medium term fundamentals and desirable policies”. The IMF thinks that the risk of the dollar surging in value is high, and estimates a 10 per cent appreciation would reduce American GDP by 0.5 per cent in the first year and 0.5-0.8 per cent in the second year.
Trump is likely to be highly expansionary in his first year because the Republicans, having control of the Congress, Senate and the White House, must revive growth and jobs to ensure voters give them a second term. Note carefully that Trump’s election promises of stopping immigration, scrapping the Trans-Pacific Partnership (TPP) trade deal, imposing sanctions on China and cancelling the North American Free Trade Agreement (NAFTA) are all inflationary in nature.
This is why if the Fed does not raise interest rates in December this year, it may be under pressure next year not to take any action to slow a Trump economic recovery. The Fed’s independence will be called into question, since Trump’s expansionary policy will put pressure on his budget deficit and national debt, already running at 3 per cent and 76 per cent of GDP respectively. A 1-per-cent increase in nominal interest rates would add roughly 0.7 per cent to the fiscal deficit, making it unsustainable in the long run.
Those who think that recovery in US growth would be good for trade are likely to be disappointed. So far, the recovery (which is stronger than in either Europe or Japan) has led to little increase in imports, due to three effects – lower oil prices, the increase in domestic shale oil production and more onshoring of manufacturing. The US current account deficit may worsen somewhat to around 4 per cent of GDP, but this will not improve unless sanctions are imposed on both China and Mexico, which would in turn hurt global trade.
Why is a strong dollar risky for the global economy?
The answer is that the global growth model would be too dependent on the US, while the other economies are still struggling. Europe used to be broadly balanced in terms of current account, but has moved to become a major surplus zone of around 3.4 per cent of GDP. Germany alone is running a current account surplus of 8.6 per cent of GDP in 2016, benefiting hugely from the weak euro.
Japan has moved back again to a current surplus of 3.7 per cent of GDP, but the yen remains weak at current levels of 107 to the dollar. I interpret the Bank of Japan’s QQE (qualitative and quantitative easing) as both a financial stability tool and also one aimed at ensuring that the capital outflows by Japanese funds would outweigh the inflows from foreigners punting on a yen appreciation.
The Bank of Japan’s unlimited buying of Japanese government bonds at fixed rates would put a cap on losses for pension and insurance funds holding long-term bonds if the yield curve were to steepen (bond prices fall when interest rates rise). Japanese pension and insurance funds have been large investors in US Treasuries and securities for the higher yield and possible currency appreciation.
In short, the capital outflow from Japan to the dollar is helpful to US-Japan relations. Prime Minister Shinzo Abe was the first foreign leader to call on Trump and likely dangled a carrot: Tokyo will fund Trump’s expansionary policies so long as Japan is allowed to re-arm.
From 2007 to 2015, US securities held by foreigners increased by $7.3 trillion to $17.1 trillion, bringing its gross amount to 94 per cent of GDP, official figures show. Japan already holds just under $2 trillion of US securities and, as a surplus saver, has lots of room to buy more.
The bottom line for Asia? Don’t expect great trade recovery from any US expansion. On the other hand, Asian investors will continue to buy US dollars on the prospects of higher interest rates and better recovery. This puts pressure on Asian exchange rates.
Of course, it’s possible that US fund managers will start investing back in Asia, but with trade sanctions and frosty relations between US-China in the short-term, US investors will stay home. If interest rates do go up in Asia in response to Fed rate increases, don’t expect the bond markets to improve. The equity outlook would depend on individual country responses to these global uncertainty threats.
In short, expect more Trump tantrums in financial markets.
Think Asian By Andrew Sheng, a former central banker, writes on global issues from an Asian perspective.
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US President-elect Donald Trump gestures a thumbs up at the clubhouse of Trump International Golf Club, in Bedminster Township, New Jersey, USA, 20 November 2016. EPA/
