Highlights

  • Bank of England is authorised to buy private assets

  • Japanese foreign trade data show plunge in growth in Q4

  • BoJ forecasts further GDP contraction of 2.6% in fiscal year 2009


No end to crisis yet in sight

Over the past week, the currency markets reacted again as they have so often done during the crisis: the dollar dropped against the yen, USD-JPY fell from almost 91 to below 88.50. However, the US currency held its ground against most other currencies. EUR-USD lost well over 3%, falling to 1.28. Once again, the pound sterling suffered the biggest losses. This week, GBP-USD plummeted from over 1.49 to below 1.37. EUR-GBP rose accordingly from 0.89 to 0.945.

New rescue package weighs on pound

The British government’s announcement of a new rescue package for UK banks put the pound under pressure. Firstly, the government is planning to protect banks against further losses from troubled loans and assets. Under the new scheme, future losses on portfolios of defined assets will be borne by the banks themselves up to a certain amount. The government will cover 90% of the losses exceeding this amount. The Treasury is initially earmarking £25bn for the risk protection scheme, but sums of up to £200bn are being quoted in the press.

Secondly, the government is offering to convert its preference shares into ordinary shares. This will help banks which recently received capital injections, as they have to pay preference shares dividends of 12%. In return for this, however, banks must commit themselves to increase lending to the private sector. The government will thus have greater influence over the banks ofcourse. So far RBS appears to be the only bank interested in this offer. A further important part of the package concerns the Bank of England. In order to improve banks’ liquidity, the BoE will be authorised to buy up to £50bn worth of (nontoxic!) non-government securities and loans – commercial paper, corporate bonds and syndicated loans. This in fact is the beginning of “quantitative easing” in the UK.The British financial sector is undoubtedly facing big problems and the macroeconomic significance is high. However, it looks as though the UK currency is taking a particularly heavy battering for problems which, as is becoming evident from 2008 balance sheets, exist in other countries as well. There have also been negative headlines about the financial sector in the US and Germany, for instance. Seen from this angle, the depreciation of the pound against the euro could perhaps be regarded as somewhat exaggerated.
The lack of liquidity in the currency market could have played a part too.

Yen soars, but economy plummets

A ludicrous constellation can be observed in Japan at present: while the yen is approaching its all-time high of 1982 against the dollar – just under 80 – the Japanese economy is collapsing.
Industrial production in Japan, which had already been falling in the first three quarters of 2008, will probably have plunged again in the fourth quarter by well over 10% qoq. If the forecasts for December of –9% mom are confirmed, due to a statistical effect, the first quarter will already be set back by 9%, even if industrial production were to stagnate. Almost all major industrial sectors are affected, from the car industry to mechanical engineering.

The main reason for this is the plunge in exports; in Q4, exports plummeted by 20%. Imports fell too, almost as much, but this was due to declining commodity prices. Therefore, in real terms, the development is even more dramatic than in nominal terms (see chart). If we transpose the development of the trade balance in real terms onto net exports, we get a negative growth contribution in the range of 2.5 percentage points. As private consumption will probably have been flat and investments are more likely to have made a negative contribution, real GDP could have fallen in Q4 by 2.5 to 3% compared to the previous quarter.

The Bank of Japan’s macroeconomic forecasts are not much more optimistic either: GDP is expected to have dropped by 2.0% in the fiscal year 2008 which ends in March. For the fiscal year 2009, the BoJ is forecasting a further decline of 2.6%. The economic outlook does not improve until fiscal year 2010.

The yen exchange rate is continuing to follow the pattern that stress in the financial markets is good for the yen – because the Japanese unwind foreign investments and carry trades. However, there is growing disparity between the appreciation of the yen and the macroeconomic situation in Japan.