3 | 08 August 2011
fiscal and economic challenges to a degree more than we envisaged when weassigned the negative outlook to the rating on April 18, 2011. And S&P is
“pessimistic about the capacity of Congress and the Administration to be able toleverage their agreement this week into a broader fiscal consolidation plan...”
So bottom line is that the fiscal plan was not ambitious enough and S&P doubts thatpoliticians are able to come up with a plan that can meet the medium-term challenges.
Uncertain how the downgrade will affect the dollar
The downgrade attaches a higher risk premium to US assets and we should
all elsebeing equal -
expect to see the US dollar depreciate against the other „reserve‟ currencies –
the Swiss franc, the yen and most likely also the euro. We already saw EUR/USDmoving higher on Friday as the downgrade rumours started to hit the market.A possible sell-off in risky assets would, however, mitigate the negative effects on thedollar. We could even see the dollar gain against not least the cyclical and also risk sensitive currencies (e.g. the commodity, EM currencies and Scandies) if the shock to risk sentiment is large enough.A bigger sell-off in risky assets coinciding with general deleveraging could also lead to arapid unwinding of speculative short dollar positions (which according to IMM data havebeen building over the past month), which will also support the dollar.EUR/USD is also expected to get support from the decision by the ECB to re-activate theSMP. The decision should remove some of the current risk premium attached to the euro.For more on the effect on the dollar of the downgrade see
. All in all, we are reluctant to recommend selling the dollar on the downgrade as anyinitial sell-off in risky assets will be dollar-supportive.The traditional safe-haven currencies CHF and JPY should benefit from capital inflow.Hence, a new round of intervention on FX market from BoJ and probably also the SNBcould be imminent, if the currencies appreciate strongly.
Strong reaction from China
China issued a fairly harsh statement following the downgrade blaming the US forcreating its own mess.
“The US government has to come to terms with the painful fact that the good old days
when it could just borrow its way out of messes of its own making are finally g
one,” thestatement said. “China, the largest creditor of the world‟s sole superpower, has every right
now to demand the United States address its structural debt problems and ensure the
safety of China‟s dollar assets
. International supervision over the issue of US dollarsshould be introduced and a new, stable and secured global reserve currency may also bean option to avert a catastrophe caused by any single country.
The downgrade is thus increasing tensions between the
two largest economicpowers which is only adding to uncertainty.