[Kabar-indonesia] Morgan Stanley: Asia/Pacific: It's the Deficit, Stupid [+Currencies]

[Joyo at aol.com]

4 articles: 

- Asia/Pacific: It's the Deficit, Stupid

- Japan: No Need to Be Dazzled by Virtual Price
  Changes

- Philippines: 2Q06 GDP Rose 5.5% YoY

- Currencies: Thoughts on the 'Global Funneling
  Hypothesis'

Morgan Stanley Economists 
September 1, 2006

Asia/Pacific: It's the Deficit, Stupid

Andy Xie

Summary and conclusions

The United States is attempting to switch from sticks
to carrots in its policy to bring developing countries
like China to its side in managing the global economy.
 The main carrot is to give developing countries a
greater say in running the International Monetary
Fund.  This carrot may not be big enough.  The world
is full of dollars.  The IMF is the dollar supplier of
last resort and is not important to developing
countries at present.

While the US may be sincere in its efforts, its
position is undermined by the massive US current
account deficit.  The US’ superpower status is based
on dollar or gun diplomacy.  The US current account
has undermined the former, as developing countries
have extensive dollar holdings.  The latter is
encountering major challenges in Iraq and has lost
some credibility.

Unless the US tackles its current account deficit, the
global economy will likely continue to suffer
instability: Financial markets stand to face further
speculative excesses, while international financial
institutions lose influence and oil producers pursue
strategic objectives with their oil leverage.

The US’ international efforts suggest that it is still
unwilling to face its current account problem.  In my
view, the US must accept a deep recession to balance
its economy.  But, after 20 years of prosperity,
America’s leaders believe that American voters would
not accept a recession, and so they continue to search
for a painless way out. 

The old world order of Bretton Woods institutions was
broken a long time ago.  With the failing Doha Round,
the World Trade Organization could at best maintain
the status quo and is not likely to solve the critical
problems that face the world today, in my view.  With
the US losing influence, the world looks chaotic and
in need of a new order.  But unless the US deals with
its current account deficit, I believe that nothing
significant is likely to happen.

In the chaotic global system, no policy coordination
is likely.  The US continues its consumption spree. 
Developing countries tolerate a property bubble and
inflation.  The bottom line is that the global party
continues until a potential accident brings it
crashing down.

Global gridlock

The failing Doha Round of the WTO negotiations is
raising concerns that globalization is reaching its
limits.  The productivity gains from the existing
globalization efforts may be maxed out.  Without new
globalization efforts, the world economy could slow to
a 3-3.5% growth rate from 5% in the past three years. 
Inflation could become a problem due to slowing
productivity.

The solidarity among developing countries in the Doha
Round surprised the OECD block.  The developing
countries’ main grievance with the OECD block is over
the protection of its agriculture sector.  The
developing nations are demanding meaningful change
before they grant the OECD block access to their
service sector.  Considering the politics of OECD
agriculture, this looks like a lost cause to me.

On the strategic front, oil exporters have become much
more vocal in opposing the US agenda.  With bulging
wallets, they are far less concerned about the
punishment that the US might be able to impose.   At
the same time, the US and the world community in
general are worried about oil prices and are less
eager to punish countries that have oil.

While the global economy has performed well in the
past two years, it is becoming harder to tackle
structural issues and thus sustain the growth.  Why is
this so?

Too much money spoils incentives to cooperate

The big US current account deficit is driving many
phenomena in the world, including the property bubble,
commodity speculation and declining bond yields.  The
key dynamic is that the US current account deficit
artificially expands the global balance sheet.

The demand effect of the US current account deficit is
well understood.  It is part of the strong global
trade story.  Its effect on loosening financial
constraints in developing countries is less well
understood.  Developing economies are more dependent
on trade than the OECD block is.  Their currencies are
tied to the dollar regardless of what their currency
policies are.  When they run current account
surpluses, their monetary conditions loosen up. 
Hence, the bigger the US current account deficit, the
lower the real interest rate in developing countries.

The lower real interest rate has sparked a property
boom in developing countries, which has lifted either
consumption (e.g., India) or investment (e.g., China).
 The financial effect of the US current account
deficit on the domestic demand of developing countries
is still poorly understood.  This is why I believe
that the theory of developing economies decoupling
from the US is unrealistic.

In addition to the financial effect, the bulging
wallets among developing economies are strengthening
their hands in dealing with the US on global issues. 
The Doha Round is the most telling example. 
Essentially, the US is losing leverage as a result of
the abundant supply of dollars in the global economy.

Is the US trading superpower status for a good time?

The US appears to be undermining its long-term
strength for the sake of excessive consumption. 
Because the US leadership believes that the American
people would not accept a serious cutback in their
spending, it is searching for a solution outside the
US.

US diplomacy over the value of China’s currency is one
example.  The irony is that a Chinese revaluation
would hurt rather than benefit the US, as it could be
a tax on the US consumer.  But, somehow, many in the
US latched onto this policy option as a way out of the
US current account deficit.

The failing Doha Round is another blow.  The US is now
shifting to a soft approach by offering greater IMF
stakes to developing countries in exchange for more
flexibility on the Doha Round and other issues.  IMF
stakes are probably not sufficient inducements for
developing countries to come around to the US point of
view.

The bottom line, I believe, is that the US must accept
a recession to solve its problem.  It keeps dancing
around this necessity and looks to ineffective
alternatives.

As the US hopes for better alternatives, its current
account deficit continues to grow.  The cumulative
current account deficit is already 45% of US GDP.  If
the trend does not change, it could surpass 60% in
three years.  This is a level at which many countries
have suffered currency crises.

The dollar is not just another currency.  It is the
standard for global trade.  If the US continues to
extract value from the dollar’s status by sustaining a
massive current account deficit, it could reach a
turning point where the dollar’s credibility would be
eroded and its value would plunge, US interest rates
would shoot up, and the US economy would enter a
period of prolonged stagflation.

Extreme scenarios for 2007

Financial markets are expecting a soft landing for the
global economy in 2007.  This is a risky proposition. 
I think that the global economy will be either very
strong or very weak.  The middle ground is hard to
achieve.

Judging from its behavior, the US probably won’t deal
with its problem unless forced to do so by external
factors.  Meanwhile, developing countries are
tolerating more inflation in exchange for growth,
because the US current account deficit keeps the usual
punishment for inflation, i.e., currency weakness, at
bay.  Essentially, the global economy is likely to
keep overheating until it hits an accident.

One possible accident is a collapse of US consumption
due to the housing downturn.  But the consumption
spree has already survived the bursting of the tech
bubble, 9-11, and the energy shock, and it may survive
the housing downturn, too.

Another potential accident is the soaring oil price. 
There are many flash points in the Middle East.  As
the oil market is already speculative, it exaggerates
the impact of geopolitical risks.

An inflation spike is possible.  Asia drives global
inflation, as it is the low-cost producer.  The price
of land is the main cost driver for Asian production. 
Land prices remain bubbly and could spike up again due
to the low real interest rate.  While major central
banks are relaxed about inflation now, they could
quickly change their policies and tighten
aggressively, heightening the risk of a global
recession.

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Morgan Stanley Economists 
September 1, 2006

Japan: No Need to Be Dazzled by Virtual Price Changes

Takehiro Sato

What’s new: The first CPI revisions in five years had
a considerable market impact. However, the market’s
interpretation, as if the economy is about to return
to a deflationary trend, does not appear correct.  In
actuality, the measurement of the data is now more
precise, while economic and price fundamentals have
not suddenly changed.

Conclusions: We do not think that the market’s
reaction, as if the CPI revisions shook up the
government and BoJ, is justified. The government is
laying the groundwork to declare an end to deflation,
and the BoJ’s underlying assessment of the economy and
prices is unlikely to change decisively because core
inflation’s swing from negative to positive territory
remains unchanged.

Policy and market implications: BoJ Governor Fukui may
reaffirm the bank’s upbeat stance on the economy and
prices at the September 8 press conference.  This
could lead to a slight change in the market’s overly
confident view of no further rate hikes by year-end.

Risks: A government declaration of an end to deflation
would be a double-edged sword for politicians in that
it lowers the hurdles for rate hikes.

Overreaction to CPI data

The CPI revisions, the first in five years, had a
considerable market impact. The post-revision
nationwide core CPI for July was up only 0.2%, weaker
than the market expected and thus diminishing
expectations for further rate hikes by year-end. The
bond market rallied but the stock market ran into
headwinds, even though it should ordinarily react
positively to low inflation and prospects for delays
in rate hikes.

The CPI revisions, however, were aimed at measuring
price trends more realistically, through changes in
survey components and their mix to make them better
match actual spending by households. Hence, the
measurement of the data is now more precise, and
economic and price fundamentals have not suddenly
changed. We accordingly think that the response is an
overreaction, as if the economy is about to return to
a deflationary trend.

Price stability from rising productivity in
quasi-public, manufacturing sectors

Of the components that weighed on the rebased CPI,
mobile phone rates surprised most market participants.
After being flat on the old basis, they fell 6.6% YoY
in July nationwide, for a negative impact of 0.14 ppt
on the core CPI. Mobile phone rates have been revised
on the new basis retroactive to November 2005, but
they did not decline substantially that month. This
type of quasi-utility rate has consistently put
downward pressure on prices because of deregulation,
price competition and a number of discount plan
offerings. But because it is difficult to regularly
revise samples for such quasi-utility rates, when
revisions do occur, the nominal price declines look
sudden. Such was the case in November 2004, owing to
fixed-line call rates.

Also, the price declines for flat-panel TVs, DVD
recorders and other consumer electronics considered
cultural and entertainment durables and newly included
in the basket of goods and services, in conjunction
with their increasingly widespread use, were
statistically notable. This result, however, was
widely expected because improvements in price
performance are recognized as having downward effects
on prices, a constant phenomenon in the area of
electronics. In sum, the above trends reflect improved
productivity in the quasi-public and manufacturing
sectors and are welcome ones, in our view, in that
they help improve living standards.

Reactions from government, BoJ not negative

As for policy and market implications, we do not think
the market’s reaction, that the CPI revisions shook up
the government and BoJ, is justified. Indeed, BoJ
officials appear to be coming up against more
difficulties in building up a consensus among
politicians and government officials for rate hikes.
As noted in press reports, however, the Cabinet Office
is doing preparations to declare that deflation has
ended because the latest data confirm an underlying
improvement in prices. Such a declaration would be a
double-edged sword for politicians in that it lowers
the hurdles for rate hikes, though.

In official documents, namely the Outlook for Economic
Activity and Prices, the BoJ had predicted a negative
impact of 0.3ppt from the CPI revisions. The actual
negative impact for July was 0.4ppt, 0.1ppt wider than
expected, but we doubt that this difference is enough
to affect the BoJ’s underlying assessment on economic
activity and prices. After all, the YoY change in core
inflation turned positive after January-March, and
although the rise is very low, the swing from negative
to positive territory remains unchanged.

We also do not think that the YoY declines in the
so-called core (of the) core and US-type core CPI,
excluding broadly defined utility charges and other
special factors, are reasons for serious concern
because of the impact of mobile phone rates noted
above. Since the BoJ had predicted that the revisions
would have a negative impact of 0.3ppt, a YoY decline
in the US-type core, which was up only 0.2% in June
(on the old basis), could have been expected to a
large extent. Also, a factor that contributed to the
CPI revisions becoming such a prominent market theme
is that the 0.4ppt revision impact appeared very
substantial because price increases in Japan had been
less than 1% at most. We doubt that the impact would
have attracted so much attention if price increases
were closer to those in the US, at 2-3%.

Fukui likely to be upbeat on economy, prices

The first official BoJ assessment on price trends,
including the impact of the CPI revisions, is to come
at the BoJ governor’s regular press conference
following the September 8 policy meeting. We think
that the tone of Fukui’s comments will be similar to
what we noted above. We maintain our outlook for the
policy change because we had been cautious on the pace
of rate hikes, expecting the next rate hike to come in
January-March 2007, partly in light of Japan’s strong
productivity growth. If Fukui reaffirms his optimism
on the economy and prices, however, it could lead to a
slight change in the market’s overly confident (or
pessimistic) view of no further rate hikes by
year-end. 

The BoJ adopted a two-pillar, forward-looking
framework when it ended quantitative easing in March,
making the longer-term price outlook more important
than the latest inflation data. Specifically, under
the second pillar, the bank would examine, from the
perspective of sustainable growth under price
stability, “risk factors that might significantly
impact economic activity and prices if they
materialized, although the probability of these risks
materializing was low”. Based on the BoJ’s logic,
asset price fluctuation risk rises even when inflation
is low, just as right before the bubble years, and
based on the second pillar, it is instinctive for
central bankers to be vigilant. We would like to make
it clear that we do not agree with this logic.

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Morgan Stanley Economists 
September 1, 2006

Philippines: 2Q06 GDP Rose 5.5% YoY

Deyi Tan

Quick comment: 2Q GDP rose 5.5% YoY, higher than our
and market expectations of 5.2% YoY and 5.1% YoY,
respectively. 1Q06 GDP growth was revised up from 5.5%
YoY to 5.7% YoY. This brings 1H06 growth to 5.6% YoY,
following 5.1% YoY in 2H05.

Domestic demand weakened further: Domestic demand
conditions appeared to have weakened further, rising
only 2.9% YoY (versus +4.3% YoY in 1Q). Specifically,
private consumption decelerated to 5.2% YoY (versus
+5.6%YoY in 1Q), contributing 4.1%-pt (versus +4.3%-pt
in 2Q06), even though overseas workers remittances
rose 16.0% YoY (versus +14.6% YoY in 1Q06). Government
consumption slowed to 0.4% YoY (versus +8.1% YoY) as
spending was front-loaded in 1Q06.

Fixed investment continued to weaken (-5.4% YoY versus
+0.3% YoY in 2Q06). In particular, construction
plunged 5.2% YoY as private construction declined by
10.5% YoY amid the 2.1% YoY increase in public
construction. Durable equipment spending also declined
by 6.2% YoY.

External demand was key growth driver in 2Q06: Exports
rose 22.3% YoY (versus +12.5% YoY in 1Q06) on the back
of both merchandise goods (+21.8% YoY) and services
(+25.2% YoY). Imports picked up to a lesser extent at
4.0% YoY (versus +0.7% YoY in 1Q06) as merchandise
rose 4.3% while services slipped to -2.2% YoY.
Consequently, the net external balance contribution to
growth widened to 7.6%-pt from 5.1%-pt in 1Q.

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Currencies: Thoughts on the 'Global Funneling
Hypothesis'

Stephen Jen (UK)

On August 17, 2006,  I presented a hypothesis that may
help to explain why EUR/JPY is so high — a hypothesis
which, if true, runs counter to the view I’ve had
about the G3 currencies for the past year, i.e.,
USD/JPY and EUR/JPY lower over time.  The hypothesis
captures an aspect of the global forces that affects
the currency markets I had not been aware of
previously.  While I still believe that EUR/JPY is
significantly over-valued (our model suggests a median
fair value of only 110), and should sell off over
time, I no longer believe that the sell-off will be
violent, and that triggers are needed for EUR/JPY to
sell off.  Previously, I held the view that EUR/JPY
was so mis-priced that no trigger would be needed for
it to start to realign towards (possibly without
reaching) its fair value.

In this note, I present some follow-up thoughts on
this concept.  Formal changes to our official
forecasts will be announced next week.  But I just
wanted to underscore the significance I attach to this
hypothesized process, and warn my readers that this
has affected my thinking on the G3 currencies. 

145 was my ‘intellectual stop-loss’

For most of the past 18 months, I have been bearish
EUR/JPY, with a rather ‘orthodox’ perspective. 
Specifically, USD/JPY should trade lower, because of
the real economic fundamentals, and EUR/USD is
slightly over-valued from a fair value (FV)
perspective.  EUR/JPY, both as a residual to our
outlook for USD/JPY and EUR/USD, and from a FV
perspective, should trade lower.  In our official
forecasts, we have EUR/JPY declining to 131 by
year-end, and 114 by end-2007. 

For most of 2003-05, EUR/JPY did not materially breach
the low 140s.  But since June 2006, EUR/JPY broke
clean through 145 and subsequently took out the 150
barrier.  My ‘intellectual stop-loss’ was 145.  If my
thesis on EUR/JPY (based on two rather independent
views on USD/JPY and EUR/USD) were correct, EUR/JPY
would not have gone so far away from the FV.  What
makes this up-trend in EUR/JPY so compelling is that
no investor I know of has a structurally positive view
on EUR/JPY.  Until very recently, there have only been
two types of investors I know:  those who are
short-EUR/JPY and those who are thinking about
shorting EUR/JPY.  

A high EUR/JPY can no longer be dismissed as a
temporary mis-pricing, in my view, since the up-trend
in EUR/JPY may have been propelled by forces that are
genuine but not well understood.  My thesis on the G3
currencies needed to be reviewed. 

The basic idea

Most cross-border trade is settled in dollars, some in
euros, and almost none in less-than-fully-convertible
currencies.  However, even if the settlement of the
import is done in dollars, the importing country will
still need to sell its local currency for dollars to
pay for the imports. 

Rather than looking at the complex matrix of the
bilateral trade relationships, I will focus on the two
groups of countries that are running the largest
current account (C/A) surpluses:  Asia and the Middle
East, which, according to the IMF’s WEO report, will
run, respectively, US$397 billion and US$306 billion
of surpluses this year.  Simplifying the world through
this aggregation, in simple terms, the world buys from
these countries, in net terms, and these countries
invest the proceeds in the financial markets.  

My ‘Global Funneling Hypothesis’ is based on the
observation that the currency composition of the
‘upstream’ flows, i.e., the financial counterparts of
the C/A transactions, is very wide.  A wide spectrum
of countries, like Malaysia, Mexico, Peru, Russia,
Japan and Estonia, all have to sell their own
currencies, as the first step, before acquiring the
right settlement currency (in most cases the dollar)
to pay for imports from Asian countries or for oil
imports.  In this process, a wide spectrum of local
currencies is sold and the dollar is bought

The ‘downstream flows’ include the capital outflows
(not the C/A flows) from these two groups of trade
surplus countries in the form of official reserve
accumulation or just growing petroleum investment
funds.  

If the currency composition of these ‘downstream’
capital flows matched the ‘upstream’ trade-related
flows, then the whole process should not have any
impact on exchange rates.  However, the fact is that
the currency composition of the ‘downstream’ capital
flows is substantially narrower, consisting primarily
of the USD, the EUR and the GBP. The whole process of
the world paying for the imports from Asia and the oil
exporters involves selling of a wide spectrum of
currencies and buying of only three currencies. 

As I pointed out in my note from August 17, for Asia
and OPEC countries, roughly 15-20% of exports go to
the US and the EU, but 40-50% go to Asia.  What this
means is that most of the upstream flows originate
from JPY and other Asian currencies and not USD or
EUR, but most of the downstream capital flows go into
USD and EUR. 

As a result, for the world as a whole, there is a
‘funneling’ effect whereby many currencies, mostly
Asian currencies, are sold, and USD, EUR and GBP are
bought.  The Asian central banks and the foreign
investment managers from the oil-exporting countries
are the ‘two valves’ in this global funnel. 

Observations on the conceptual aspects of this idea

I have the following thoughts:

• Thought 1.  EUR/JPY is, in the currency space, the
purest and the truest measure of ‘globalization’. 
Thinking through this framework, I now believe that a
higher EUR/JPY is a natural consequence of
globalization.  Globalization of the goods markets is
‘democratic’, i.e., it permits the participation of
all countries:  rich or poor, large or small,
labour-abundant, capital-abundant or
resource-abundant. The different comparative
advantages of various countries can now be better
exploited.  Global trade surged and global imbalances
rose.  All this makes perfect sense.  Globalization of
the goods markets has been a Pareto-improving process,
on the whole, as it is a positive-sum proposition.  

However, globalization of the asset markets (otherwise
known as ‘financial globalization’) has benefited
primarily those countries with very well developed
financial markets.  As the global capital markets
opened themselves up, the flows from developing
countries into developed asset markets overwhelmed the
flows in the opposite direction (though clearly there
has been a material increase in investor interest in
emerging markets in recent years). 

This out-of-balance nature of goods and asset market
globalization is the ‘engine’ that propels the
currency funneling process. 

Conceptually, the issue here is that, while
comparative advantages rule the goods market trade,
absolute advantages rule the capital market
transactions.  In other words, even though emerging
markets offer higher yields, their assets are not
attractive to the reserve managers of the very
emerging markets, almost at any interest rate. 
Security and liquidity are two sacred characteristics
that many large investors demand.  Profits are less
important.  Further, a 5.25% return on USD cash is
pretty ‘profitable’, in addition to being secure and
liquid.  This means that the US, the UK and other
Anglo-Saxon countries have enhanced their dominance in
global financial flows.  Euroland, with its liquidity
premium, has also become a favored destination of
global capital.

• Thought 2.  The market’s focus on the
‘dollar-to-euro diversification’ misses this point. 
For two years now, investors have been totally
convinced either that there has already been wholesale
diversification from USD into EUR, or that, one day,
this will happen as foreign investors lose their
appetite for USD assets and stampede into EUR assets. 
I believe that this fixation on the nature of the
‘downstream’ flows is both partial and so far wrong. 
The most definitive data on the currency composition
of reserves is the COFER database from the IMF.   It
does not suggest that there has been a dollar-to-euros
conversion in the aggregate, despite announcements by
various countries that they are raising their EUR
exposure.   My point is that, the likely currency
composition of the Asian official reserves and the oil
exporters’ investment funds don’t need to change for
EUR/USD and EUR/JPY to go higher.  As long as the
total size of the flows being churned through this
funnel continues to rise, EUR/USD and EUR/JPY will be
supported. 

• Thought 3.  This hypothesis is also related to but
different from the ‘Excess Savings’ idea.  I first
introduced the idea in late 2004 in a series of My
Thoughts on Currencies that the yawning global
imbalances were ‘stable’ because Asia had excess
savings.  The superior financial markets in the US,
Euroland and the UK ensured that most of these excess
savings would be channeled to these countries, and not
to other emerging markets.  But the key distinction
between the ‘Global Funneling Hypothesis’ and the
‘Excess Savings’ idea is that, if globalization
continues, the former implies that EUR/JPY and GBP/JPY
will go higher, while the latter implies only that the
USD will stay better supported than its C/A deficit
implies, i.e., the
‘dollar-will-crash-because-of-the-outsized-C/A
deficit’ is an overly simplistic view, a point I’ve
argued for the past two years. 

• Thought 4.  This hypothesis is also related to but
different from the De Facto Dollar Zone idea.   First
of all, my De Facto Dollar Zone idea is to be
distinguished from the ‘Bretton Woods II’ idea.  
While the BWII idea requires exchange rate fixity and
undervaluation of the Asian currencies pegged to the
dollar, my De Facto Dollar Zone idea is less
restrictive:  all that is needed for a big bloc of the
world to rely on the dollar for international
transactions is that their own currencies are not
fully convertible.  Currency fixity or undervaluation
is not necessary for a country to qualify as a member
of my De Facto Dollar Zone.  The De Facto Dollar Zone
idea essentially argues that the currency of
settlement for trade will remain heavily skewed in
favor of the dollar.  The bulk of international trade
will continue to be settled in USD, especially trade
between and with the Asian countries.  The distinction
with the ‘Global Funneling Hypothesis’ is that it is a
comprehensive description of both the ‘upstream’ and
the ‘downstream’ flows, whereas the De Facto Dollar
Zone is a statement about the ‘upstream’ flows only,
with actionable implications for GBP/JPY and EUR/JPY. 

The future trajectory of EUR/JPY

I have had a very bearish outlook both for the short
term and over the medium term.  However, the ‘Global
Funneling Hypothesis’ suggests that the process of
globalization will bias EUR/JPY and GBP/JPY upward,
and that I may have had an incomplete view of this
cross.  When will EUR/JPY sell off?  Here are some
thoughts I have:

1. I still believe that EUR/JPY will trend lower over
time.  EUR/JPY is significantly over-valued, and
further sustained increases in EUR/JPY will have real
implications for Euroland.  However, global demand has
been so robust that the German exporters have not
minded the high EUR/JPY.  This means that EUR/JPY
could enter the 150-155 zone in the short term,
propelled by the ‘Global Funneling’ process.  However,
when the global economy downshifts, I believe that the
negative income effect will accentuate the European
exporters’ sensitivity toward EUR/JPY, and this will
likely be reflected in European equity prices. 
EUR/JPY will have a better opportunity to peak and
embark on its overdue decline. 

2. I no longer think that EUR/JPY’s fall will be
violent, and triggers are needed for EUR/JPY to fall. 
Unless the process of globalization is
thwarted/impeded by shocks (e.g., protectionism), the
upward pressures on EUR/JPY will likely remain.  This
may not necessarily mean that EUR/JPY will go higher
from here, but when it does fall, I think it will
enjoy good support from the Global Funneling process. 
Further, I had previously held the view that EUR/JPY
was massively mis-priced, and that no trigger would be
needed for it to start to decline.  I now believe that
a trigger, such as the aforementioned global slowdown,
is needed for EUR/JPY to stall out and start to fall. 
It will likely keep drifting higher unless it is
stopped. 

3. I no longer think that USD/JPY will sell off as
sharply as I had envisaged earlier this year.  If
EUR/JPY’s downward trajectory is flatter than we had
thought, I believe it is the USD/JPY path that we have
missed, rather than the EUR/USD path.  It is likely
that global risk appetite has peaked.  Lower
risk-taking capacity and a prospective slowdown in the
US and China could make it difficult for USD/JPY to
sell off as sharply as we had expected. 

Bottom line

The ‘Global Funneling Hypothesis’ I introduced two
weeks ago is likely to be the main explanation for why
EUR/JPY is so high.  But if this hypothesis is true
then, conceptually speaking, EUR/JPY drives EUR/USD
and USD/JPY, not the other way around.  We may need to
flatten our forecasted downward trajectories for
EUR/JPY and USD/JPY somewhat. 

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Joyo Indonesia News Service
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