Photo: Morgan Stanley
With Europe in crisis and downside currency risks threatening emerging markets, 2012 will be the “year of the dollar” according to a Morgan Stanley report out today.The U.S. is the “best safe haven” in a torrent of deleveraging, and it’s liable to stay that way.
From the note:
The environment of deleveraging should also favour USD. In our view, not only will balance sheets continue to shrink at European banks, but this will occur globally, as regulations demand increasingly higher capital ratios. While all safe havens are likely to benefit in a deleveraging scenario, USD has the distinct advantage of being the only G10 funder where policy-makers are not pushing back on appreciation.
That’s even despite indications that we could see a third round of quantitative easing around the middle of next year. The report goes on to establish that QE1 did more to deflate the dollar than QE2, so QE3 will have less of an impact than QE2.
Traditionally, the dollar runs counter to global growth, and the trend towards deleveraging in the euro area has many similarities to past moments of dollar strength—not the least of which occurred after Latin American and Asian booms in the 1980s and 1990s, respectively.
In both situations, overleveraging in the corporate sector saw a sharp correction, and equities fell hard as the dollar rallied. In both those situations, the note describes how banks dealt with big losses after overinvestment based on leverage.
We’re somewhat sceptical of the analogy, however, given this chart detailing bank leverage historically. In both those historical events, banks were not facing the dramatic drop in leverage that banks around the world could see right now (following the recent U.S. example in 2008 and 2009).
Either way, Morgan Stanley’s analysts write that they expect a USD peak during the fourth quarter of 2012, before deflating as the world begins to recover in 2013.