IS PLAZA ACCORD 2.0 COMING ? / BARRON´S ( A MUST READ )

Up and Down Wall Street

THURSDAY, SEPTEMBER 8, 2011

Is Plaza Accord 2.0 coming?

By RANDALL W. FORSYTH

Morgan Stanley suggests internationally coordinated monetary easing as in 1985 could lie ahead.


Is a Plaza Accord 2.0 ahead? Some 26 years ago this month, the major industrialized nations hatched a plan to lower the dollar and unleash a wave of liquidity that raised global equity markets in the mid-1980s. Could it happen again?


Yes, say Joachim Fels, Manor Pradhan and Spyros Andreopolous, who head Morgan Stanley's global economics. In a report released Wednesday, they write that monetary authorities of the developed economies -- the Federal Reserve, the European Central Bank, the Bank of Japan and the Bank of England -- could react to "weak growth and soggy asset markets" with coordinated easing.


In addition, they note that surprise easing moves by leading emerging-market economies, Brazil and Turkey, would complement the process. And while the Morgan Stanley team doesn't mention it explicitly, the Swiss National Bank's decision to peg the Swiss franc to the euro also would be consistent with an internationally coordinated easing move.


Moreover, Wednesday's rousing 3% rally in U.S. stocks would be consistent with some further liquidity provision from the Fed. If other central banks went along, so much the better.


For those whom the grand hotel overlooking Manhattan's Central Park conjures only the setting for the "Eloise" children's books or genteel afternoon tea in the Palm Court, the Plaza also was the setting for a major financial agreement in September 1985.


Believe it or not, the major source of international monetary then was a too-strong dollar. American manufacturers complained that they were uncompetitive against other, supposedly undervalued currencies. Major foreign nations complained that they were forced to maintain tight monetary policies to prevent their currencies from taking an inflationary fall, resulting in sluggish growth at home.


The solution was to engineer a decline in the dollar -- which had appreciated about 50% since the Reagan Administration took office -- and let the Group of Five major industrial nations all cut interest rates. The G5 then consisted of the U.S., West Germany and Japan along with France and Italy, which attests to the geopolitical changes over the next quarter century.


The Morgan Stanley economics team now says economics policymakers are constrained on the fiscal side. While President Obama is set to announce new initiatives to boost jobs Thursday evening, U.S. fiscal policy is hemmed in by deficit-cutting fervor.


In Europe, austerity is the order of the day for overly indebted governments such as Greece and Italy, not to mention the U.K. The ECB has followed an extremely stringent policy, much to the detriment of the European Union economies and especially those battered by austerity policies to bring public debt under control. And in a move reminiscent of 2008, the ECB actually hiked its key policy rate. An international monetary agreement would provide the ECB with cover to reverse this disastrous policy.


Coordinated monetary easing is left as one of the few available options among developed nations. Emerging nations of Turkey and Brazil meanwhile have begun to lower interest rates to counter the slowdown of their economies, which is the result of sluggish growth in the trading partners.


You'll recall that the Fed's QE2 plan, which consisted of the purchase of $600 billion of Treasury securities, elicited howls of protest from abroad. The biggest complaint came from Brazil's finance minister, who accused the U.S. from starting a currency war by driving the dollar lower to boost U.S. exports.


But if everybody pursues easy money together, exchange rates won't be affected materially. Which is the attraction of such as scheme. If the U.S. and Brazil ease together, there's no currency war and nobody gets hurt.


Even more importantly, if the Peoples Bank of China is a party to Plaza 2.0 and ends its tightening program, the circle will be complete. (Again, note China's and Brazil's integral importance in international monetary affairs, and the near-total irrelevancy of Italy and France.)


If everybody goes along -- and the Morgan Stanley team thinks something could be hatched at the Group of Seven meeting this weekend -- asset prices would be inflated. Whether there is a corresponding positive impact on real growth and employment is another matter. With high government debt levels forcing fiscal constriction, all that's left is monetary expansion.


The obvious response to such a scheme would be if central banks are intent upon coordinated monetary easing, gold should have rallied instead of plunging over $50 an ounce and bringing the metal's price down almost $100 in a matter of less than two days. Viewing the gold market's action, Dennis Gartman, the editor of the eponymously named Gartman Letter, declared unequivocally that the break in gold Wednesday was the result of "concerted government selling."


All of which appears consistent with the major central banks hatching some coordinated monetary easing. Meanwhile, the key havens from monetary debasement, the Swiss franc and gold, are rendered less attractive by official action in the case of the former. As for the latter, evidence of covert action is merely circumstantial.


Whether Wednesday's market action had anything to do with any policy change about to be hatched is speculation, at best. The Morgan Stanley team suggests rather persuasively that something big could be coming on the monetary front. Stay tuned.
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