Lower Mark Rate Speculation not Shared in Germany

Speculation abroad that the Bundesbank will steer money market rates lower, opening the for interest rate cuts around Europe, is not shared by many economists and money market dealers within Germany.

Speculation has developed that the Bundesbank would engineer lower rates to take pressure off the dollar/mark.

A strong rise in U.S. Market rates this month, prompting speculation the Fed would raise its 5-1/2 pct discount rate, has raised the question whether Germany and Japan would also broaden interest rate differentials to support the dollar.

The U.S.-Japanese trade dispute is the key to the interest rate outlook, money market dealers in Paris said.

Talks this week between Japanese Prime Minister Yasuhiro Nakasone and President Reagan, if successful, could take pressure off the dollar, dealers and economists said.

Short term interest rates would be likely to ease if the trade dispute is solved and the dollar steadies, they said.

But if no solution is found, the Paris dealers said, a renewed dollar fall would put strains on the mark/French franc rate and force the Bank of France to raise short-term rates.

The three-month U.S. Treasury bill rate rose to six pct this week from 5.6 pct at the start of April, and the yield on the 30-year benchmark treasury bonds rose this week in Tokyo to a 14-month high of 8.86 pct from 7.66 pct in late March.

The dollar stabilized today just below 1.80 marks and above 140 yen, underpinned by higher U.S. Rates and the Fed discount rate speculation.

But most dealers expect it to weaken further, which would put pressure on the Bundesbank to ease interest rates.

Japanese Finance Minister Kiichi Miyazawa said yesterday the U.S. Had requested Japan to cut short-term interest rates.

The Bank of Japan was making efforts to do this, he said, adding the U.S. Had not asked for a cut in Japan’s 2.5 pct discount rate, a move which Bank of Japan Governor Satoshi Sumita said was not under consideration.

A call for a German move came yesterday from Dutch central bank president Wim Duisenberg, who said the Dutch central bank favoured a cut in West German interest rates and would follow suit if it happened.

Citibank AG said in its April report that another expected phase of dollar weakness would prompt the Bundesbank to cut key money market rates in the next three to six months.

The Bundesbank has set a fixed rate of 3.80 pct on repurchase pacts since February, with call money trading around 3.70 pct for much of April.

Phillips and Drew senior European economist Richard Reid said the Bundesbank would allow interest rates to ease further, either with a lower fixed rate tender, or a tender by interest rate, allowing the market to set the rate.

“I’m fairly confident we’ll see lower rates,” he said.

Reid said taking 30 basis points off the repurchase rate would have little impact on the German economy or fundamental exchange rates, but could change market currency perceptions.

“A cut in German rates wouldn’t be bad for the dollar, but I think its effect would be limited in duration unless it was accompanied by other measures elsewhere,” he said.

Money market dealers here noted the speculation abroad that the Bundesbank would push down repurchase rates, but said the Bundesbank had little reason to cut rates further at the moment, despite the liquid market seen for most of this month.

The dealers said the Bundesbank was likely to move to an interest rate tender for its repurchase pacts next month. That should not be seen as a sign of easing monetary policy however, they said.

The Bundesbank would merely be experimenting with interest rate tenders, following the introduction of a new system to speed up the tender process at the start of April, they said.

Reinhard Pohl, head of the monetary policy section at the DIW economic research institute in West Berlin, said the Bundesbank would probably not cut rates on repurchase pacts.

“I don’t think that if they cut the repurchase rate a little it would stop a wave of (currency) speculation,” he said. But a sharp and sudden deterioration in the dollar could force the Bundesbank to take some action, he said.

Pohl said the Bundesbank was concerned that a cut in interest rates would accelerate excessive monetary growth.

Some Bundesbank officials have argued recently that the monetary overshoot was due to strong currency inflows rather than credit growth, and therefore a more appropriate response to excessive money supply growth would be to cut rates, to make the mark and mark investments less attractive.

Pohl said the Bundesbank was hoping that domestic investors would switch funds parked in liquid short-term accounts, which have swollen central bank money stock, into securities, which would take them out of the Bundesbank’s key monetary measure.

A cut in interest rates at this stage however would lead investors to assume that rates had bottomed out and the next move would be upwards. They would therefore hold off buying bonds, leaving central bank money stock swollen.

There are so far no signs that German investors are switching funds into long term securities as the Bundesbank hopes they will, Berliner Handels- und Frankfurter Bank economist Hermann Remsperger said.

But Phillips and Drew’s Reid said prospects of lower rates and a strong currency would attract foreign investors into German bonds, which would in turn attract domestic investors.

Werner Rein, chief economist at Union Bank of Switzerland in Zurich, said he thought it likely that interest rates would continue to drift lower in many European countries.

“The scope for lower rates is probably greatest in Britain but more limited in West Germany, where we could see some consolidation,” he said. Switzerland could be forced to match any cut in German rates to prevent the franc rising further against the mark, he said.

Currency dealers in London said another half-point cut in U.K. Bank base rates was likely in the next few weeks as the pound had shrugged off yesterday’s cuts and was still rising.