Monday, December 5, 2016

Currency risk rising with the Trump debt deluge

The cost of insuring a pile of money against some outlandish government monetary threat is real, and rising.  The higher the insurance costs, the higher the interest expense at the  Swamp.  So we have a bottom and a top on the ten year rate, a small corridor through which the Republican debt deluge must pass.

Once upon a time, the cost to hedge currency risk in global trade and finance was relatively cheap. How things change. 
In the pre-crisis heyday, when the cost to procure dollars staged an uptick — implied interest rates in the currency market exceeding corresponding rates in the cash markets by a notable margin — banks would subsequently arbitrage away the difference, and move the gap close to zero.
Once viewed as a law of finance known as the covered interest rate parity condition, this market dynamic unraveled during the global financial crisis and then again during the euro-area sovereign debt debacle, amid a spike in counterparty risk and a sharp reduction in dollar funding to non-U.S. banks. These two strains — a key barometer for risk appetite and financial stability — have eased relative to the heights reached during the crisis.

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