On the verge of a worldwide currency crisis

Sarkozy Fears 'Economic War' as Dollar Slides

By Ambrose Evans-Pritchard
The Telegraph, London
Thursday, November 8, 2007

http://www.telegraph.co.uk/money/main.jhtml;jsessionid=V3TQOP1R3VY03QFIQ...

The French president, Nicolas Sarkozy, has warned the U.S. Congress that the country risks triggering "economic war" if it attempts to devalue its way out of trouble by allowing a relentless slide in the dollar.

The stunning remarks came as the greenback plunged to a record low of $1.4731 against the euro, causing a chorus of angry protests from industrial leaders in France and Italy. The dollar breached $2.10 against sterling for the first time since the early Thatcher years in 1981. On Wall Street the Dow tumbled 246.40 to 13,414.50.

Mr Sarkozy spared no sensitivities as he launched into a full-blown attack on the Bush Administration. "The dollar cannot remain solely the problem of others," he said. "If we are not careful, monetary disarray could morph into economic war. We would all be its victims.

"Those who admire the nation that has built the world's greatest economy and has never ceased trying to persuade the world of the advantages of free trade expect her to be the first to promote fair exchange rates."

Stephen Jen, an analyst at Morgan Stanley, said the dollar fall had become alarming. "This has been driven so far by Middle Eastern and Asian central banks, but there is a risk that hedge funds will start to join in, and they can be very powerful," he said.

"The most dangerous threat is that the yen will snap back and destroy the 'carry trade' before anybody has a chance to unwind positions."

The $1,200 billion (L570 billion) yen carry trade has been a huge source of liquidity for asset markets. A sudden reversal could cause a shock to the world system, as in 1998.

The dollar's dive came after comments by Cheng Siwei, vice-chair of China's Congress, suggesting that Beijing would switch more of its $1,340 billion reserves away from US bonds. "The euro is rising and the dollar is weakening, and we can achieve a better match of the two," he said.

Simon Derrick, a strategist at Bank of New York Mellon, said it appeared to be a slip of the tongue: "The last thing the Chinese need now is a rapidly falling dollar. Their inflation is already running at 6.2 percent." Mr Derrick said the world was on the cusp of a full-blown currency crisis. "The Fed is caught between a rock and hard place. It can't keep rates high enough to fight inflation because of the sub-prime crisis."

Mr Sarkozy's comments came after the French luxury goods group LVMH said it was moving production to India. Airbus stands to lose E100 million in profits for every one cent rise in the euro, a loss of E1.2 billion since August.

Luca di Montezemolo, head of Italy's business federation, said the high euro was having "devastating effects." Even German companies are starting to suffer. Manufacturing orders dropped 2.5 percent in September.

Mr Sarkozy words were undoubtedly directed at the European Central Bank before today's interest rate meeting. A German-led group of bank governors is pressing for a rate rise before inflation gets out of hand. Any such move would set off a political storm in Europe.

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