Experts: No Central Bank Action on Dollar Drop

MoneyNews
Friday, April 4, 2008

The dollar's plunge in recent weeks has spurred chatter in the currency markets that central banks might intervene, buying greenbacks to buoy the wounded currency.
But experts say the big three central banks – the Federal Reserve, the European Central Bank and the Bank of Japan – will probably stay out of the market. The Fed is likely to refrain because the weaker dollar is boosting U.S. exports.

And the other two central banks would be reluctant to go in alone. Moreover, the euro's strength helps combat inflation in Europe.

On Monday, the euro rose to a record high of $1.5904, and the dollar fell to a 12-year low of 95.77 yen. That's what raised the specter of intervention.

The last coordinated intervention among major central banks came in late 2000, when they sought to boost the sinking euro. Soon after taking office, the Bush administration made clear its opposition to meddling in currency markets.

The last solo intervention by a major central bank happened in 2003-04, when the BOJ sold massive amounts of yen to support the dollar.

Consider the situation for each of the big three central banks now.

The U.S.

"In the U.S., the weak dollar is helping exports and thus offsetting the drag on the economy from the weak housing sector," David Gilmore, a partner at currency consulting firm Foreign Exchange Analytics, tells MoneyNews.

"So as far as the U.S. is concerned, a weaker dollar has more benefits than costs. Inflation is a worry, but the Fed is more concerned about growth. We're in a recession, so prices probably will come down on their own."

The Fed would be working at cross purposes it if buys dollars while cutting interest rates, as lower rates tend to depress the U.S. currency by making dollar-denominated money-market securities less attractive.

"I can't think of a time when the U.S. was simultaneously easing monetary policy and intervening in the currency markets," Jeff Frankel, a Harvard economist, tells The Wall Street Journal.

Europe

Europeans aren't pleased with the negative effect the dollar's weakness is having on their exports. "They feel they're carrying an unfair share of the burden of adjustment" for the U.S. current account deficit, Gilmore says.

But the ECB is unlikely to go into the currency market on its own, experts say. Morgan Stanley currency analyst Stephen Jen points out in The Journal that Europe too would be working against its interest-rate policy by purchasing dollars.

The ECB has been steadfast in refusing to cut rates, seeking to fight inflation, which reached a 3.3 percent annual rate in the 17-nation euro zone during February. And a strong euro helps to fight inflation.

Japan

Japan, with its heavily export-dependent economy, "has a higher propensity for intervention than anyone else, " Gilmore says.

"I don't think they want to get involved in a unilateral intervention. They took a lot of heat in March 2004, when they intervened massively and manipulated the market to support their export-oriented economic policy."

To be sure, all bets are off if the dollar goes into a nosedive. Japan "may feel it has to do something" at that point, Tohru Sasaki, chief currency strategist at JPMorgan Chase Tokyo, tells The New York Times.

But for now the probability of coordinated intervention is low. "The dollar is a sideshow to what's troubling financial markets," Gilmore points out. "Intervention wouldn't do much to restore liquidity and confidence."

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