Bank of Japan Follows Fed into Zero, ECB Stands out as "Hero"?
Today's BoJ decision to jump back into zero interest rates along with the Fed means the ECB is left alone with 1.0% policy interest rate, a notion that is hard to resist by FX traders favoring further gains in EUR. This is especially the case as the ECB shortens the duration of available funding. Meanwhile, FRBNY pres Bill Dudley reminded us last week that additional QE is a defacto easing of fed funds rate.
Don't Confound Inadequate Liquidity with Unnecessary Liquidity
Many have wrongly stated that rising EURIBOR rates (Eurozone interbank rate) as a sign of inadequate liquidity, which is a sign of lack of confidence. But they confuse rising EUR interbank rates -- resulting from inadequate liquidity due to lack of lending & trust among banks, with rising EURIBOR usually associated with lack of need of funds (the case today after Eurozone banks demanded less loans from ECB). Last week, Eurozone banks demanded €104 billion from the ECB's 3-month liquidity operation, well below the expected €150 billion. JC Trichet has expressed this as sign of less need for funding. But the unexpectedly low demand could further drive up EONIA as excess liquidity declines by an estimated €80 billion. EUR 3-month LIBOR is now at hit a 15-month high of 0.89%, extending the spread over its US counterpart to 0.58 bps, the highest since Feb 2009. As long as the ECB and Eurozone banks are content with shorter maturity loan facilities and any event-risk is averted with regards to the P-I-I-G-S, euro shall remain supported at $1.33. But with my $1.3850 target been hit (see pre IMTs and tweets on twitter.com/alaidi), I need a new fundamental catalyst for a break above $1.3940.
BoJ Easing Will Not be Enough
The decision by the Bank of Japan to purchase everything in sight except for stocks reflects the desperate situation of the central bank. The BoJ slashed its policy rate from 0.1% to between 0% and 0.1%, while creating a temporary fund of about ¥35 trillion to buy various financial assets (government bonds, corporate bonds, and commercial paper). Will the BoJ buy stocks as it did ¥2 trillion worth of bank shares in 2002-3? For those who were around in 2002, remember, the BoJ included stocks in its shopping list well into mid 2003, until it resorted to pure yen-selling intervention into March 2004. The BoJ's measures may be sufficient to prevent yen strength versus commodity and European currencies but are unlikely to reverse the USD/JPY beyond the 85 yen level.
My QE is Bigger than your QE
And if you think the ¥35 trillion announced from the BoJ is large, it is only the equivalent of about $420 billion, which is less than half the anticipated +$1.0 trillion in treasury purchases expected from the Fed. As the Fed's QE2 is set to overwhelm the easing measures of the BoJ, any rebound in USD/JPY will be short-lived, just as short-lived as today's bounce in USD/JPY to 84.00 before falling back to 82.97. Can the BoJ ultimately resort to fresh wave of yen-selling intervention? Perhaps, but its case is increasingly untenable considering 1) yen is in fact weakening versus most of the other currencies; 2) interventions are politically incorrect as they were frowned upon by EU and US officials. I expect gradual selling momentum to re-emerge, triggering 81, with 79.70 an increasing likelihood before year end.