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Monday, October 27, 2008 3:22 AM

Currency Crisis Meltdown in Europe, Japan, Australia

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Currency interventions don't work but that does not stop countries from wasting money trying. A massive unwinding of the Yen carry trade is in progress and in response the G7 says it's prepared to act on excessive yen swings.

The Group of Seven warned on Monday the yen's wild swings threatened financial stability, fanning speculation central banks may intervene to halt a rally in the currency driven by a Japanese exodus from emerging markets.

G7 finance ministers and central bank governors said they were prepared to act, if necessary, but market reaction was muted, reflecting doubts over the will for co-ordinated action and whether Tokyo could succeed acting on its own.

"We are concerned about the recent excessive volatility in the exchange rate of the yen and its possible adverse implications for economic and financial stability," the brief statement said.

On Monday, the yen traded near an all-time high against the Australian dollar and near a 13-year peak against the U.S. dollar, as a 6 percent slump in Tokyo shares spurred a renewed wave of selling of higher-yielding currencies.

The yen climbed nearly 19 percent so far this year against the U.S. currency, which itself has gained substantially against many emerging markets currencies and the euro, despite the grim outlook for the U.S. economy.
Europe on the brink of currency crisis meltdown

The Telegraph is reporting Europe on the brink of currency crisis meltdown.
The financial crisis spreading like wildfire across the former Soviet bloc threatens to set off a second and more dangerous banking crisis in Western Europe, tipping the whole Continent into a fully-fledged economic slump.

Currency pegs are being tested to destruction on the fringes of Europe’s monetary union in a traumatic upheaval that recalls the collapse of the Exchange Rate Mechanism in 1992. “This is the biggest currency crisis the world has ever seen,” said Neil Mellor, a strategist at Bank of New York Mellon.

Experts fear the mayhem may soon trigger a chain reaction within the eurozone itself. The risk is a surge in capital flight from Austria – the country, as it happens, that set off the global banking collapse of May 1931 when Credit-Anstalt went down – and from a string of Club Med countries that rely on foreign funding to cover huge current account deficits.

The latest data from the Bank for International Settlements shows that Western European banks hold almost all the exposure to the emerging market bubble, now busting with spectacular effect. They account for three-quarters of the total $4.7 trillion £2.96 trillion) in cross-border bank loans to Eastern Europe, Latin America and emerging Asia extended during the global credit boom – a sum that vastly exceeds the scale of both the US sub-prime and Alt-A debacles.

Europe has already had its first foretaste of what this may mean. Iceland’s demise has left them nursing likely losses of $74bn (£47bn). The Germans have lost $22bn.

Stephen Jen, currency chief at Morgan Stanley, says the emerging market crash is a vastly underestimated risk. It threatens to become “the second epicentre of the global financial crisis”, this time unfolding in Europe rather than America.

Austria’s bank exposure to emerging markets is equal to 85pc of GDP – with a heavy concentration in Hungary, Ukraine, and Serbia – all now queuing up (with Belarus) for rescue packages from the International Monetary Fund.

Exposure is 50pc of GDP for Switzerland, 25pc for Sweden, 24pc for the UK, and 23pc for Spain. The US figure is just 4pc. America is the staid old lady in this drama.

Amazingly, Spanish banks alone have lent $316bn to Latin America, almost twice the lending by all US banks combined ($172bn) to what was once the US backyard. Hence the growing doubts about the health of Spain’s financial system – already under stress from its own property crash – as Argentina spirals towards another default, and Brazil’s currency, bonds and stocks all go into freefall.
Here is the key paragraph:

Stephen Jen, currency chief at Morgan Stanley, says the emerging market crash is a vastly underestimated risk. It threatens to become “the second epicentre of the global financial crisis”, this time unfolding in Europe rather than America.

Indeed the emerging market loan exposure of Austria, Spain, Switzerland, the UK, Germany, and Sweden is staggering.

RBA Props Up Australian Dollar.

The Sydney Morning Herald is reporting RBA steps in again to prop up Australian dollar.
The Reserve Bank of Australia (RBA) has confirmed it bought more Australian dollars today in the second intervention after it entered the foreign exchange market during Friday night's offshore session. The RBA intervened on Friday night, buying Australian dollars overseas because the market was illiquid.

The Australian dollar fell to 60.55 US cents on Friday night for the first time since April 2003. The currency also fell to 55.10 Japanese yen during offshore trade, its lowest point since the end of World War II.
Australian Dollar Monthly Chart

British Pound Monthly Chart

New Zealand Dollar Monthly Chart

Euro Monthly

Yen Monthly

Currency charts courtesy of Barchart

A funny thing happened to that US dollar crash nearly everyone told me was coming. It looks like everything but the Yen crashed instead, just as some deflationists thought.

Mike "Mish" Shedlock
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