Dollar slide may prompt joint intervention, Morgan Stanley says

By Stanley White
Bloomberg News Service
Friday, November 2, 2007

http://www.bloomberg.com/apps/news?pid=newsarchive&sid=a_Hg1qiLaMME

TOKYO -- The dollar's decline to record lows may turn into a "more violent correction" that requires the U.S., the European Union, and Japan to intervene in foreign- exchange markets, said analysts at Morgan Stanley.

Coordinated intervention may occur after the Federal Reserve has finished cutting interest rates and the European Central Bank has ceased raising them, the investment bank said. Japan may act if the yen approaches 100 to the dollar, the bank said. The three major economies are unlikely to intervene as long as the euro stays below $1.50, it said.

"The dollar could potentially weaken meaningfully further," analysts Stephen Jen and Charles St-Arnaud wrote in a note sent to clients yesterday. "Though coordinated interventions may not be an immediate threat, they should now be on our radar screen."

The dollar index, a measure of the U.S. currency against six others, fell to 76.47 on Oct. 31, the lowest since it was created in 1973. The index was at 76.53 at 8:47 a.m. in London from 77.03 at the end of last week.

The dollar traded at $1.4472 against the euro, down from $1.4393 a week ago and headed for its fourth weekly loss. The dollar bought 114.79 yen, little changed on the week. The U.S. currency may trade at $1.43 per euro and fall to 110 yen at the end of March, Morgan Stanley forecasts.

...'Unless It's Stopped'

Weakness in the dollar has been caused by concern a slowing economy will lead to lower interest rates and spur investors to diversify into developing countries, Jen and St-Arnaud said. The decline may continue "unless it's stopped," because trade and investment flows rarely offset large currency moves, they said. In the past 30 years, coordinated intervention caused all but one of the changes to the dollar's long-term trend, the two analysts wrote.

"The natural economic mechanisms that should, in theory, have helped halt the dollar selloff were not, in fact, usually strong enough," the Morgan Stanley analysts said. "This is why multilateral interventions were usually required to facilitate the re-alignments of exchange rates."

Policy makers intervene in currency markets by arranging purchases or sales of foreign exchange. While U.S. Treasury Secretary Henry Paulson has said repeatedly that a strong dollar is in America's interest, he says the value of currencies should be set by the market. Under President George W. Bush, the Treasury has never intervened in the currency market.

...Fed Policy

The Fed lowered its target rate for overnight loans between banks by a quarter-percentage point to 4.5 percent on Oct. 31 to prevent the housing market from pulling the world's largest economy into recession.

European officials may complain about the euro's 13 percent gain against the dollar in the past year should the region's economy show signs of weakness, the analysts said.

The ECB will be more likely to intervene in the currency markets once it does not have to limit Inflation and money supply growth, Morgan Stanley said. The ECB will keep borrowing costs on hold at 4 percent when it meets on Nov. 8, according to a Bloomberg News survey.

The ECB bought euros in November 2000, seeking to support the currency when it fell below 90 cents, following its launch the previous year.

Japan may intervene to deter speculators from buying the yen, mirroring its joint intervention with the U.S. to prop up the currency after declined to an eight-year low of 146.78 per dollar on June 17, 1998, Morgan Stanley said.

Japan hasn't sold its currency since March 16, 2004, and last bought yen in 1998.

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