Dollar and yen benefit in crisis

Dollar and yen benefit in crisis
Tim Bowler
Oct 27, 2008

http://news.bbc.co.uk/1/hi/business/7693020.stm

The US dollar and the Japanese yen are emerging as winning currencies in the global financial crisis.

Both are considered safe havens because their banks have lent less than banks in other countries to emerging markets. In contrast, the main currency losers have been the euro and the British pound.

Investors had been using dollar-denominated loans to invest elsewhere, but as the crisis has worsened cash-strapped banks and lenders have been calling in these loans, which has resulted in a scramble for dollars to pay them off.

The yen has gained from the ending of the "carry trade", where currency investors sought to take advantage of the difference in interest rates between Japan - where rates have been traditionally low - and other countries where rates were higher.

The pound has come in for a hammering given the British economy's vulnerability to the financial crisis and expectations of further UK interest rate cuts.

Meanwhile the euro is falling in value because of worries about Europe's exposure to emerging markets - particularly in eastern European countries.

RISING DOLLAR

The dollar has emerged as one of the main winners in the financial crisis.

As credit has dried up, banks have started to call in loans, which has meant borrowers having to buy up dollars to repay loans they owe in the currency.

This all of which means the price of the dollar is set to continue rising.

It is possible that the prospect of falling US interest rates may offset some of this demand for the dollar, as the US already has the lowest interest rates of any G7 industrialised country except Japan.

Another potential limit on the dollar's rise, may be the flood of debt the US government will sell to finance its budget deficit and bank bailouts. However, most currency traders expect the dollar to continue to strengthen over coming months.

SOARING YEN

The Japanese yen has been the other main beneficiary, and against the US dollar it has risen towards a 13-year high - despite the dollar's strength.

This is largely down to the virtual ending of the yen "carry trade" where investors had sought to take advantage of the difference in countries' interest rates.

The shares of top Japanese exporters like Toyota and Sony have been hit hard - despite reports Japan's government is considering a massive capital injection into struggling banks in a bid to calm jittery financial markets.

Mounting concerns about the surging yen have the G7 group of leading industrial nations to issue a statement warning about "recent excessive volatility".

WEAKENING POUND

In the UK, the pound has continued to fall sharply against the dollar, battered by fears of a recession and predictions that the Bank of England may be ready to slash interest rates further.

The Bank of England cut interest rates on 22 October to 4.5% and most economists expect it will be forced to cut interest rates again in an attempt to stave off a prolonged and painful recession.

On Friday, figures showed the UK economy shrank for the first time in 16 years, contracting by 0.5% in the third quarter, intensifying fears about the depth of recession the country could be facing.

The pound's steep falls have led some currency experts to forecast that it could fall below the $1.50 level.

FALLING EURO

The euro is under pressure on two counts - on worries about European banks' exposure to investments in emerging markets and on expectations that the European Central Bank will cut interest rates.

It has now fallen to its lowest level against the dollar in over two years.

European banks have lent heavily to crisis-stricken eastern European countries such as Ukraine, Hungary and Belarus. Ukraine and Hungary have both turned to the International Monetary Fund for help, and more countries are expected to follow.

Any damage to the European banking system would worsen the financial losses that have forced governments to put up about 1.7 trillion euros in guarantees and other aid.

The euro's weakness is an almost complete reversal of the situation in July, when the 15-country currency hit a lifetime high of $1.6038 - to the dismay of politicians across the continent who then worried that the high value of the currency would hit European exports.