China: we are dumping the Yankee dollar

Asia woke up this morning to read that Fed Chairman Ben Bernanke hurt the US dollar when he did not signal any plans to further loosen monetary policy to aid the “frustratingly slow” US economic recovery. Then again, one cannot help but wonder if the dollar would have reacted positively if he did. At least, the US stock market wouldn’t have reacted as negatively as it did, in spite of Bernanke’s pledge to keep monetary policy accommodative. Against this background, the market appears to be looking past the Greece debt crisis and holding on to their euros. What the dollar bears need now is for ECB President Jean-Claude Trichet to signal a July hike at tomorrow’s ECB meeting.

To some extent, the weak dollar tone was already set during Asian trading hours yesterday. The main story was an article that saw a Chinese State Administration of Foreign Exchange official warning against excessive holdings of US assets because of the downside risks posed by loose US monetary and fiscal policies to the dollar. These comments were not taken lightly because data showed that China’s net purchases of US treasury bonds and notes were negative in 1Q 2011 despite a large accumulation of foreign reserves. The first quarter was also when China started to openly support EU bonds over US government debt. For most of this year, markets have struggled between the US budget impasse obstructing the lifting of the US federal debt limit and the EU sovereign debt crisis. What is slowly becoming clear is that creditor nations will be more willing to support the country/region that sets a responsible path towards a credible fiscal consolidation path.