The contrast in the early Monday tone to that of late Friday is stark. Equity market investors worried themselves silly over fears that banking stocks would be nationalized. Over the weekend suggestions that the U.S. government might indeed convert a preferred stake into a common equity stake of as much as 40% appears to have soothed investor fears. The immediate response in the currency world was to buy the euro and sell both dollars and yen. The euro has reversed course since Jean Claude Trichet subsequently noted reduced credit flows in Europe where starting to impact economic activity. The euro has declined to $1.2800.
Quite why the sudden outburst of optimism we're left scratching our heads. The banking system is in an awful state and the only sigh of relief we see here is that by further reducing the appearance of certain banking stocks in major indices, the less focus there will be on how banks can drag down stocks day after day.
Perhaps though, investors can look to Britain this morning for a fast-forward view as to what government intervention might mean. The government-supported Northern Rock has been told to lend around $20 billion to borrowers. The pull back from London by major foreign lenders has compounded the credit-crunch and made it hard to borrow to buy a home. The government is splitting the mortgage lender into two. A bad bank will manage the existing portfolio of loans, while a good bank will channel government inspired lending. Over time Northern Rock is repaying the government a substantial loan put in place following a run on the bank's deposits.
The news, in addition to a major restructuring at the Royal Bank of Scotland aimed at developing two divisions before 2014, instilled confidence in the government's efforts to revitalize the economy and propelled the pound to above $1.4600 from $1.4443 on Friday. The bank of England is also mulling the possibility of implementing further forms of easing including buying bank and corporate paper assets to help clear the logjam. For now the pound is basking in an early spring thaw. We can only say that these are healthy measures but can't say for certain how far these collective plans will succeed.
Mortgage lending is at the lowest in many years. The government is trying to maneuver the early casualty of Northern rock into a position of strength, yet at the same time recognizes that not only did the government fail to restrain excessive bank lending over the past decade or so, but also that it must deal with lending going forward. Right now the common ground is to reactivate lending somehow. In other words, they may be able to stabilize lending but they can't stabilize home prices.
Already to start the week the early optimism that has developed over the weekend is showing itself up in dollar strength, even if it's only marginal. The clear deterioration in the prospects for the Japanese economy are negatively affecting the value of the yen, which today is lower on all fronts. Against the dollar it's trading at ¥94.32, while against the euro it's trading at ¥120.66. That's a strengthening by one yen over Friday in each case.
Part of the positive dollar story here is courtesy of the jaw boning from President Obama on the subject of the deficit. One of the main drags on the prospects for the U.S. currency over the past year or so in the eyes of many analysts has been the likely deterioration in the fiscal deficit. Last week the President noted that he would like to view the printing press as a purely temporary measure and would like to at least halve the consequent deficit before his first term is up. It may be a tall order, but if words can help change the world's view here, he's adding to sentiment that is starting to clearly support a medium term bullish dollar view.
