Volatility wise, Thursday was a relatively quiet day in the forex
market. USD/JPY extended its losses but the greenback recovered against euro,
sterling and other major currencies. The rallies in the Australian and New Zealand
dollars were the strongest with both currencies experiencing their biggest
one-day rally in 3 weeks against USD. While there were no US economic reports
released, the rebound in stocks supported the steadier price action. Better
than expected Chinese trade also helped fuel the recovery in AUD and NZD.
The big story of the day was President Trump's comments on USD. In
a series of tweets, he said, "As your President, one would think that I
would be thrilled with our very strong dollar. I am not! The Fed's high
interest rate level, in comparison to other countries, is keeping the dollar
high, making it more difficult for our great manufacturers like Caterpillar,
Boeing, John Deere, our car companies, & others, to compete on a level
playing field. With substantial Fed Cuts (there is no inflation) and no
quantitative tightening, the dollar will make it possible for our companies to
win against any competition. We have the greatest companies in the world, there
is nobody even close, but unfortunately the same cannot be said about our
Federal Reserve. They have called it wrong at every step of the way, and we are
still winning. Can you imagine what would happen if they actually called it
right?"
Investors are worried that by expressing a preference for a weaker
dollar, President Trump is hinting that he could order the Treasury to
intervene in the currency. This would be similar to his actions last week where
he called China a currency manipulator on twitter and a day later, the Treasury
made the label official. Could President Trump devalue the dollar? Certainly.
Just last month he said he "could do that in two seconds if I
wanted," but any intervention could backfire.
President Trump will argue that by devaluing the dollar, he's
making US exporters cheaper and foreign profits of American companies more
valuable in USD terms.
But dollar intervention is a bad idea because it drives up prices,
creates more volatility in the markets and makes the Fed's job more difficult.
If Trump's primary goal is to pressure the Fed to cut interest rates further,
he's accomplished that by escalating the trade war with China. Markets
collapsed, global growth will slow and investors are looking for two more rate
cuts this year.
If Trump devalues USD, stronger foreign profits could be offset by
lower stock valuations and weaker demand at home.
Also intervention rarely works if it is not coordinated with the
central bank. If the Fed sterilizes the intervention, the impact could be
limited. If stocks crash, investors will flock to the safety of US dollars
anyway.
If intervention move is aimed at leveling the playing field with
China, the US can't afford to intervene because China has deeper pockets. The
Chinese government has $3 trillion in reserves to prevent the currency from
weakening. US intervention on the other hand is funded by the Exchange
Stabilization Fund, which has a buying power of USD 100 billion. Trump could allocate
more funds but that would require the approval of Congress.
Judging from the price action in the dollar today and the move in
US stocks, investors are not worried about intervention risk. They feel that
the chance is low because it is unprecedented and dangerous but Trump likes to
buck convention and could find ways to push this through.
