Is Currency Intervention Possible - Or Worth It?

The Euro is trading near record highs against the US dollar while the Japanese Yen is closing in on its 8 year high. As the US dollar continues to fall, the burning question on everyone’s mind is, “Will there be intervention?”

First, don’t expect any action by the US government. Whether they admit it or not, they like the fact the US dollar is falling because it is currently supporting growth by boosting exports.

The focus should be on the European Central Bank and the Bank of Japan

ECB - Slim Chance

This morning, ECB President Jean-Claude Trichet said that he is “concerned about excessive exchange-rate moves.” This is the first time since November 8, 2007 that Trichet has specifically expressed concern about the move in the Euro. Back then, he called the rally above 1.46 “brutal.” That led to a 200 point drop in the EUR/USD that lasted for no longer than 24 hours. This was the same phrase that Trichet used back in November 2004, which eventually led to a top in the EUR/USD, but not until 2 months later.

“Concerned” is definitely a step down from “brutal” but it is important to understand what Trichet is trying to tell us - which is that he cares about what is going in the currency. However for the time being his concern is still limited. The last time the ECB intervened was in 2000 and that was strengthen the Euro shortly after its launch. If the 13 percent rally in 2004 triggered nothing but verbal intervention, don’t expect the 6 percent rally year to stress Trichet out.

BoJ - Watch 100

As USD/JPY nears 100, intervention risk grows but will the Bank of Japan really take action after sitting on their hands for the past 4 years? Probably not. This is not the first time that USD/JPY has traded on the 101 handle without BoJ intervention. Back in late 2004, early 2005, USD/JPY hit a low of 101.70 and the BoJ did nothing, The main reason why the BoJ has not intervened over the past few years is because they want to lead by example and encourage China to make their exchange rate more flexible. If they intervene, it would set back all of their efforts.

However intervention from Japan is still more likely than intervention from the Eurozone because Japanese corporations are beginning to suffer. The most recent Tankan survey showed that most Japanese corporations forecast the value of USDJPY in 2008 to be around 113.00. With the pair now rapidly approaching the 100 level, those hedges are deep in the red.

If they were to intervene, now would be a good time however because positioning in the Japanese Yen is at an extreme. The Japanese Government loves to intervene when long yen, short dollar positions are at extreme levels because they get the most bang for their buck by stopping those traders out and excarbating the rally in USD/JPY in the process. Yen long positions are at the highest levels since Feb 2004, right before the last BoJ intervention. Therefore I would be particularly careful about with USD/JPY shorts at the moment.

Is Intervention Worth the Effort?

No. Intervention has rarely resulted in a medium term top or bottom in a currency pair. We last saw that with the the Reserve Bank of New Zealand intervention in June 2007. The NZD/USD sold off for 200 pips, but it then quickly recovered those losses and went on to hit a 25 year high 2 months later. The only way for intervention to work would be if it was coordinated between the US, Japan and the Eurozone. Unfortunately the US is not going to agree to this anytime soon.

Comments

[Dragon Master:]

There is common illusion in USA, among most including USA policy makers and FED, that is deflated USD will help export and lower trade deficit. But reality goes other way around.

There are 3 manufaturing countries, also as largest export countries, German, China and Japan.

Since 1980s JPY appreciated from 260 to 80 to 110 per dollar but its trading plus with USD grew every year.

Since EURO appreciated from 0.82 to 1.5 per dollar, German export esp to USA gets increased every year.

Chinese RMB has appreciated from 8.25 to 7.1 for a year+ but trading plus with USA goes up, not decrease.

USA will have bigger trading deficit when USD down since it has lost manufacturing power on one way ticket while import price goes up in term of USD.

2008 Mar 11 01:42 AM