Fears of ‘taper tantrum’ recede amid protectionist policies
THE protectionist policies adopted by the United States contribute to the weakening of the dollar, which is at the lowest level in four years.
It has also helped dissipate fears of the US dollar flowing out of emerging markets such as Malaysia, when the world’s biggest economy raises interest rates, which has been kept low for the past 10 years.
In fact after the Federal Reserve raised interest rates by a quarter percentage to 1.5% to 1.75% on Wednesday, the dollar index slipped to below the 90-point mark. The dollar index measures the greenback against a few major currencies and is at levels last seen in 2014.
The ringgit is at RM3.90 against the US dollar and dealers are looking at further strengthening of the local currency against the greenback.
“The protectionist policies, trade wars and growing US budget deficit are all contributing to the weak dollar. At the moment it is still a sell call on the US dollar,” said a dealer.
Textbook economics theory would suggest that a rise in interest rates would be accompanied by the strengthening of the currency. But it is not happening as far as the US dollar is concerned, this time around.
The scenario is very unlike the situation in May 2013 when the Federal Reserve chairman Ben Bernanke announced that the United States would stop pumping money into its system to stimulate the economy.
After his announcement, there was an outflow of funds from emerging markets. The currencies, including the ringgit, took a beating as the US dollar strengthened. The episode has been labelled as “taper tantrum”.
The ringgit, which was at less than RM3.20 to the dollar, went to above the RM4 mark against the dollar some 20 months later. The falling oil price contributed to the weak ringgit.
In November 2016 when Donald Trump won the US presidency, the ringgit weakened again, sliding to a low of RM4.49 against the dollar.
However since the second half of last year, the dollar has weakened due to uncertainties of the US economy under Trump.
A currency dealer said that the weak dollar is all about market expectations and the exuberance on the greenback in the run up to the press conference by Federal Reserve chairman Jay Powell on Wednesday.
The dealer said the US dollar strengthened in recent weeks over expectations of the Federal Reserve making four rate hikes in 2018, something which Powell has dismissed.
“Furthermore the United States is going to burst its budget, adding US$300bil in spending for the next two years. The United States is seeking 10 more years to balance its budget, something which was not what Trump planned when he was on the road to presidency.
“The protectionism policies is not good for the US economy as somebody will lose out,” said the dealer.
Powell, in his maiden Federal Open Market Committee meeting, was nevertheless bullish about the US economy.
Unemployment in the United States is at 3.6%, the lowest since the 1960s, while core inflation is expected to hit above 2% next year. By mid-2020, the Fed interest rate in the United States is expected to be about 3.5%.
The gradual rise of rates in the United States adds credence to the views of local economist who feel that Bank Negara will only raise its rates towards the second half of this year. At the moment, Bank Negara has set a rate of 3.25%.
Alliance Bank chief economist M. Manokaran Mottain anticipates Bank Negara to raise the rates towards the second half of the year.
He said that historically the spread between the US and Malaysian rates were 200 basis points.
“The spread can be lower but the trigger for Bank Negara to raise rates is if the spread comes close to 100 basis points,” he said.
Generally the interest rate spreads between emerging markets and the United States is between 1.5% to 2.5%. At the height of the financial crisis, the spread was up to 400 basis points because some countries resorted to raising rates to prevent the flight of capital from emerging markets.
Note: This story first appeared in StarBiz Premium