The G20 statement differs little from [that of ] the October meeting. The statement calls for market-determined exchange rates, gradual adjustments in imbalances and condemns trade protectionism. Gradual adjustments in imbalances can be translated into the need for surplus-countries like China to have a stronger currency, while countries like the US need a weaker currency. In addition the G20 has no problem with some countries adopting capital controls if they need to stem inflows.
The discussion centers on gradual adjustments. This was all about the pace of adjustments. The 'Grand Bargain' we have highlighted over the past few weeks centered on the gradual adjustment of the US and Chinese economies over the next 3-5 years; as the currencies adjust to combat bilateral imbalances.
The US noted this evening that they are very encouraged by China's currency progress. Since China adopted 'flexibility' against the dollar, the Yuan has strengthened at an annualized 7 percent rate. The US also stated the G-20 agreement improves the odds of US export growth; the fastest way to get that is through a lower US dollar.
We continue to believe that the US and China have agreed to a gradual imbalance fix. This will result in a 7-8 percent drop in the dollar/yuan ratio each year for the next five years. This will happen as the US attempts to double its exports over the next five years, and China attempts to stimulate domestic demand over the next five years; as both President Obama and China have discussed over the past few weeks.
Later today we expect Europe and the UK to issue a statement in support of Ireland. This in concert with our views on the causality of a lower dollar/yuan on the US Dollar Index lead us to believe the current level of 1.3578 in the EUR/USD offers tremendous value in the face of QE2.
Douglas C. Borthwick is managing director of Faros Trading LLC in Stamford, Conn.