Today the USD index has hit an 8-month low, as the Euro contiues to rally, and gold consolidates the latest gains above $1300. The Euro is reported to be supported by Swiss banks, and Asian sovereigns, while the prospect of a further bout of easing continues to erode the confidence of USD bulls. We are unphased by the recent movements, however, since the conditions in the background are so bleak from a long-term perspective, that short of the armageddon scenario (such as the Chinese dumping Treasury paper, for example) we find it hard to believe that markets can reverse the USD uptrend existing since 2008 at the moment. Protectionism is by far the worst risk to the USD-bear case, but pressures in this direction are intensifying rapidly as we discuss later in the article, even though we recognize that the latest proposed measures may not be approved by the Senate or the President.

Markets get more bullish as data gets worse on the expectation that the Fed will try to inflate the money supply aggressively to prevent further deterioration. The self-feeding paradox of this viewpoint is obvious: we're in a new world if stocks appreciate because growth prospects worsen. But it has been like this for a while, and since the whole episode that we are going through is about the reversal of this mindset, we do not mind being patient.

Comments on USD by Kevin Warsh of the Fed surprises markets

In today's comments FOMC member Kevin Warsh was emphasizing the benefits of the strong dollar, and the investment flows that it entails. While admitting that the weakness of the USD is benefiting manufacturers, he seems to hint that the government is not indifferent to rapid losses in the value of the currency.

We opine that as long as the credit market remains tense and worries about the fundamental health of the global economy persist, the Fed can play its hands with relative ease, notwithstanding the very limited impact that its policies have had so far, and will probably have in the future. After all, markets are bearish on the USD only because they expect the Fed to devalue it. One can imagine that an outright refusal to do so would lead to a massive squeeze and quickly eliminate an enormous amount of dollar shorts in no time. This is not to say that it will be like this always, but the Fed does have immense leverage to its power as long as the dollar is dominating international trade and finance.

Markets are uninterested in anything that is remotely dollar-positive right now, but we note the huge dollar purchase of the Israeli central bank, and interventions by Singapore, Thailand, Indonesia and others early in the day. Demand in the bond market remains very strong, but the enormous amount of money parked there does create a cause for concern.

China imposes tariffs on U.S. poultry imports

This kind of assertiveness from China is certainly a new phenomenon. China's commerce ministry has released further details on tariffs imposed on chicken parts and whole birds, and if any of us had any doubts about the inevitability of protectionism, this must go a long way to clear the mist. According to reports, the commerce ministry will charge tariffs of 50-100% on a range of chicken products for the next five years, on the pretext that U.S. producers are dumping cheap produce in the Chinese market.

Since the approval of the punish-China bill at the House Ways and Means Commission, the Chinese, in their typical emotional, rash manner, have been looking for a way to retaliate against the humiliation that they suffered, and the new tariffs are almost certainly a reaction in this respect, rather than being a calculated move brought about by economic causes. After all, it is ridiculous and nonsensical that the world's greatest manipulator of the forex market accuses others of committing these crimes. We have never been very fond of the idea of forcing the Chinese to revalue the Yuan rapidly, since we are not a believer of the China-super power theory, but this type of irrational, tit-for-tat reaction makes one question the basic ability of the Chinese authorities to act logically. In fact, the unpredictability of the Chinese in economic, political, and even military matters has always been a concern at Washington. The lack of communication between the two parties, in spite of improvements made over the years, has been one of the reasons that successive administrations have been so soft to China. But they are overplaying their hands, and clearly they will be the greatest sufferers in consequence. After all, it is not a big deal if the current administration, or the one succeeding it, is removed in an election because people are enraged at the consequences of China economically undermining the U.S. through the various means it has its disposal. But there are no equivalent mechanisms in China, so the cost of putting up with even the most aggressive appreciation scenario will almost certainly be less than the cost of a full-scale economic confrontation with the U.S. with respect to the survivability of the CCP. We always assumed that the Chinese were aware of this fact, but with the DaGong comedy, and now with these tariffs, we are unsure about how irrational the Chinese can become in consequence of their fears about losing face. And what is worse, on a political level, the Chinese seem to be losing friends and becoming isolated as their their aggressive, bully tactics scare their neighbors, and draw them closer to the U.S. China is being too confident for a nation whose closest ally is North Korea. Certainly events in this region deserve close observation.

In other events, today the central parity rate was set at 6.6936, more than 100 points below yesterday's fix. It is also reported by the Haaretz newspaper that Chuck Schumer and his friends are focusing on Chinese companies violating U.N. Sanctions on Iran (CNPC is the first target), seeking to impose new restrictions on them in consequence.

Portugal CDS break another record, Spain goes on strike

Media reports indicate that the Portuguese minority government is preparing another package of austerity, speculated to include rises in VAT and municipal property taxes. In Ireland, CDS on Anglo-Irish Bank bonds saw interest rates rise to 930 bp, after speculation that the bailout may cost near E35billion, while Portugal CDS broke another record at 450 bp, before coming down later in the day.

These events progress at their own pace, and yet there is another, potentially equally dangerous aspect that is mostly being ignored by the markets. It is reported by the news media that Spanish workers are on general strike today, with just about every kind of service unavailable except on emergencies. Expect these events to be repeated across the continent and around the world, as people seek scapegoats and politics becomes marginalized.

USDJPY depreciates, but the BoJ remains calm for now

The BoJ is not intervening for now, as the pair moves below 84, and comes close to levels where the bank intervened massively just a short while ago. The quote was as low as 83.68 at one point in the day, but ended up higher as traders apparently got nervous about intervention speculation. The last time intervention occurred around 82.90, and it makes sense to expect a repeat around a similar level.

The Japanese predicament is illustrated by the Tankan survey where large manufacturers are reported to expect the USDJPY pair to average 89.66 this fiscal year.In fact the chief of Suzuki Motor is reported have fixed 95 per yen as the preferred rate of his business for competitiveness and profitability. If their hedges were conducted on these assumptions, it is not surprising that the government found itself forced to intervene. We are not interested in this trade, but remain bearish on it in the long-term for reasons elucidated earlier, and regard the BoJ intervention as a disastrous error that will erase the credibility of the central bank. Japan's export sector must wean itself off from the government, since the implementation of these third world policies in this day and age by one of the world's most prosperous nations is simply indefensible from any angle.

Today Asian markets were higher, European bourses and, so far, American markets were lower. Europe continues to have its own issues arising from the circle of bankruptcy surrouding it, but traders are unwilling to capitulate until the Fed clarifies the situation. Today the Euribor and Euro Libor rates were higher, but we tie this to tomorrow's large ECB LTRO expiries and prefer to see the aftermath before reaching a conclusion for the short term, even as we remain utterly bearish on the Eurozone from a longer timeframe.