Bryan Rich is the currency go-to guy at Weiss Research, and he has some interesting news about the Federal Reserves’ recent monetary policy statements. There could be big short-term implications for the dollar.
“…the real story was buried in the last paragraph of the December Fed statement and reiterated in their latest statement.
Hereâ€™s what it said â€¦
â€œThe Federal Reserve will also be working with its central bank counterparties to close its temporary liquidity swap arrangements by February 1.â€
Following the Fedâ€™s statement this week, there was a coordinated release of comments from the European Central Bank, the Bank of England and the Swiss National Bank confirming that the swap lines were no longer needed.
For the currency markets, this is a big deal. Yet, few have thought the juicy details of the Fedâ€™s plans on currency swaps are of interest.
But I do. I suspected it was a game changer for the dollar when I was studying the statement last December. And so far, the price action in the currency markets is confirming that.”
Rich argues that it was the currency swaps that pumped the global economy full of dollars, and as a result, we saw significant declines in the value of the dollar vs. other major currencies. But now that the swaps have been closed, we will see a decline in the supply of dollars on the open market, which means the value of the dollar should turn and head in the opposite direction, making it strong against other currencies:
“When they opened these massive swap lines in late 2008, the goal was to alleviate the dollar liquidity crunch at banks around the world. However, in the process they increased the supply of dollars around the globe â€” a negative consequence for the value of the dollar. But now that these lines will be closed, itâ€™s clearly a dollar-positive development.”
Couple this with other developments in the world such as a stock market correction in the US or China, a military development in the middle east,Â or the possibility of a PIIGS sovereign default (Portugal, Ireland, Italy, Greece, Spain), and we can see a rush to the dollar similar to that of 2008.
For the skeptics out there, consider that the US Treasury has to issue $1.5 Trillion in new debt this year, and foreign buyers have been slowing down their purchases of our bonds and notes. And this may sound a bit conspiratorial, but if the US government needed to ramp up purchases of US debt, one way to do that would be to make all other assets too risky to hold – and this would be accomplished if stock markets and commodities around the world began to re-collapse.
The resulting effect would be a feedback loop, meaning that any rush into the dollar would push its value higher in terms of other currencies and goods, which would then force stocks, commodities and other dollar denominated assets down.