The US dollar may be heading for a big fall, with analysts saying that rising inflation will force Asian central banks to cut the currency intervention that has been financing the massive US current account deficit.
"The price to pay for the type of intervention we saw last year...is typically that you get inflationary pressure," said Jan Lambregts, Rabobank's head of Asia-Pacific research.
"Last year that price did not have to be paid, but this time around, in an environment where inflationary pressure is on the rise, such intervention could really throw fuel on the fire."
Last week's record US current account deficit of $144.9 billion for the first quarter was a reminder to markets fixated on next week's US Federal Reserve meeting that the United States still has a funding problem.
In 2003 the United States ran a current account deficit of $530.6 billion - broadly, the imbalance between its exports and imports and the income it received from or paid to foreigners.
Asian central banks were happy to finance that deficit by buying US dollar assets, such as Treasury bonds, to hold down their currencies and keep their exports competitive. In 2003, they increased their foreign exchange reserves by almost $520 billion.
That intervention occurred when deflation was a worry for much of Asia, which was also struggling with the impact of the war in Iraq and the Sars outbreak.
Now deflation has gone in most Asian countries, where prices are not only rising but accelerating. On Wednesday, China said inflation was moving to near five percent, a rate seen as a possible trigger for a rate rise, while Singapore reported its highest inflation rate since December 2000.
Allowing a currency to strengthen is one way to slow an economy and hold down inflation. Intervening to hold a currency down, on the other hand, tends to pump up the amount of money in the economy, stoking inflation.
"With inflationary pressures starting to pick up, it's a bit more of a two-way street as to what you should let your currency do," Standard Chartered Bank currency strategist Claudio Piron said.
"I think that is perhaps a rationale why we may see Asian central banks being less aggressive in terms of supporting the dollar in coming quarters, especially if oil prices remain high."
Prospective US rate rises have pushed the current account deficit into the background, but it should reappear as the market becomes more comfortable with rising rates.
"We would argue that the latest trade, current account and balance of payments data dramatically emphasise the negative case for the dollar," Jim O'Neill, head of global research at Goldman Sachs, said in a report.
Goldman Sachs estimates that to cut the current account deficit to three percent of GDP from about five percent now, the dollar would need to fall by about 20 percent.
Looking at the dollar from another angle, Goldman Sachs reckoned that a 31 percent fall would be needed to make US assets attractive enough for foreigners to support it.
In recent years Asia has blocked such a correction for fear of losing export competitiveness. So in the first quarter, for example, the United States could turn to Asia to fund its current account needs of $1.6 billion a day.
In these three months Japan spent a record 14.83 trillion yen - about $138 billion based on the average dollar/yen rate for the quarter - trying to prop up the dollar.
All up, foreign exchange reserves at Asia's central banks rose by $247 billion in the first quarter. Most of that is thought to have been invested in US assets.
Asian central banks have already scaled down their dollar buying, but not because of inflation.
Instead, the reason appears to have been that the dollar rose in April and May because investors bet on an early rise in US interest rates. So intervention was not needed to hold Asian currencies down.
Since March, Japan has not intervened. Excluding China, which has not released figures yet, Asian central bank reserves rose by only $2 billion in the two months to May 31.
Economists expect the intervention to strengthen again - and it certainly will not disappear entirely - but inflation should prevent Asia's central banks from being such willing financiers of the US current account.
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