Pound and Euro move in lockstep

In recent years, the British Pound and the Euro have begun to converge in value, so much so that both currencies have traded within 5% of each other for almost a year now. There are a couple of explanations for this trend. First, the relationship between the Pound and the Euro are largely symbolic. Perhaps, investors are grouping the two currencies together because of some perceived economic and/or political similarities. Second, it seems that all of the currencies that are supported by any semblance of sound economic fundamentals have risen against the USD, so it is possible that the Pound-Euro convergence is simply the result of both currencies simultaneously appreciating against the USD. Monetary policy and economic cycles are not aligned in Europe and Britain, so it doesn’t seem this link has any strong fundamental basis. Whatever the reason, in all aspects except for in name, the Pound has officially been absorbed into the Euro. The Financial Times reports:

From the euro’s launch in January 1999 until 2003, the pound initially traded in a wide 21.1 per cent range against the euro. Since then, volatility has been significantly reduced with the trading range falling to 8.6 per cent in 2004 and 7.1 in 2005.

China’s forex reserves near $1 trillion

China’s foreign exchange reserves may soon surpass the mystical threshold of $1 trillion. This month, they soared to $950 Billion, as China’s current account surplus was promptly reinvested in foreign securities. If China allowed the new Yuan to circulate in the money supply, the result would be double-digit inflation. Instead, China holds all of the surplus yuan in the form of foreign currency, a habit which exerts severe upward pressure on the yuan and may soon overwhelm China’s monetary system to the point where it has no choice but to allow the yuan to appreciate. China Daily reports:

“We will take comprehensive measures to avoid further significant growth in the foreign exchange reserves,” said the vice president of China’s Central Bank

Trade data supports Yuan appreciation

That the balance of trade between the US and China is becoming more and more lopsided in favor of China should come as no surprise to anyone. In fact, economists yawned when the August trade data revealed a 33% jump in the Chinese trade surplus. As a result, many are beginning to argue that China can allow the Yuan to appreciate at a faster pace against the Dollar, since it is obvious that China’s export sector will not be materially affected by a stronger Yuan. In addition, China now exports more goods and services to the EU than to America, yet another statistic which supports the notion that China can allow its currency to appreciate against the Dollar (the implication here being that the Euro-Yuan exchange rate should be more important to China at this point). Finally, China’s inflation rate is now hovering around 6.5%, its highest level in over a decade. A more valuable Yuan would presumably make imports less expensive, thus lowering prices across the board for Chinese consumers. Bloomberg News reports:

The Chinese currency is selling for about 7.51 to the dollar. It has risen almost 6 percent against the U.S. currency in the past year while falling more than 3 percent against the euro, leaving the overall competitiveness of China's exports little changed.