Evercore Pan Asset

The G20 meeting has now finished its discussions about what action if any can be taken to deal with the huge imbalances around the world, between the successful exporting countries, and the high importing deficit countries.  The US announced its quantitative easing just before the G20. This was a provocative act to many of the other G20 leaders, showing that the US was willing to lower the dollar come what may. Both sides in the US/China argument see the currency rate as central to resolving future economic relationships.

The US action ensured that the main issue thrust onto the table was the extent to which countries intend to follow beggar my neighbour devaluation policies. The successful exporting countries like China, Germany and Japan were saying that the deficit countries need to work harder and to make more products they wish to buy. The deficit countries were hoping that the big exporters would agree to revalue their currencies and to stimulate their domestic markets, making it easier for the deficit countries to sell to them. The surplus countries objected strongly to deficit countries undermining their own currencies by creating too many electronic banknotes, especially as the surplus countries now own substantial amounts of deficit country IOUs. The deficit countries objected to the way some surplus countries restrict trade in their currencies or otherwise manipulate their exchange rates, delaying the inevitable adjustments.

The best we had hoped for from the leaders was emollient language, followed in due course by a greater willingness on both sides to resist interference with the markets seeking sensible values for the currencies. That is largely what seems to have resulted from the meeting in Seoul. If the President has taken back home the anger about US QE II he might just let it be known to the Fed that this will be the last time he does it. If China has grasped the strength of western feeling about the current level of its currency, it might just allow more upward drift after the meeting. We continue to put most emphasis on emerging market equity investments, where the currencies may well appreciate from here as the adjustments are made.

The markets also arranged their little economic question for the G20 party. Is there any level of borrowing costs for Ireland, Greece and the other stressed members of the Eurozone that might get the European countries to firm up their offers of financial help to them? Irish bond yields rose rapidly above 8% this week. Greek rates remained higher still, and there is now evidence of rising yields for Spain and Portugal. The Irish yields are too high for comfort if they stay there when Ireland starts to borrow again. When a country is too deeply in debt such rates are penal. 

The EU is rapidly trying to put in place the kind of economic government and controls you need if you are to run a successful single currency. In Euroland the centre does need to control how much each region and country within the zone can borrow, and does need to ensure common economic policies to facilitate adjustment within the zone to offset the shock of the common external currency rate. The failure to do this at the beginning has left a very lop sided zone, with some countries uncompetitive and running up huge bills.

In the UK where one area becomes very uncompetitive at our common exchange rate, with high unemployment, the rest of the UK automatically pays the bills. Germany is reluctant, as the main paymaster of the Eurozone, to do this for the most uncompetitive areas. The very public arguments over how much grant, loan and other financial assistance might be available to Greece or Ireland is bound to be destabilising. If Germany now wants bondholders of Greek and Irish debt to accept a cut in what they are owed, rather than helping with guaranteeing those loans, then it has to ready itself for German banks to also take a substantial hit. Germany is about to discover things are already more integrated than they might like.

We continue to advise sterling investors to avoid Euro quoted bond and share commitments, and expect there to be more worries before the EU comes up with a solution which reassures sufficiently.