Fed may cut rates down to 2.5% this yr: BNP Paribas

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Speaking exclusively to CNBC-TV18, Chin Loo , Senior Currency Strategist of BNP Paribas expects the US Fed to cut rates down to 2.5% this year. She said the market has already priced-in a 50 bps rate cut by the Fed .

Excerpts from CNBC-TV18's exclusive interview with Chin Loo:

Q: We have seen the yen come back from the 106 level to 107.20. That is a much wanted support level. How do you see currencies panning out from here, and of course the trigger, how do you see the Fed acting from here?

A: I think on the currency front, it will be quite choppy, whilst the market continues to digest the host of earnings reports from the US. So, I think if we get to see numbers remaining bad, then obviously there will be further unwinding of some of the positions that have been open in the market and those have tended to favour the yen.

So, there might be more carry trade unwinding that will keep dollar-yen pressure on the downside. Obviously, if earnings come out a little bit better, then we could see the yen stabilise.

In terms of the Fed as well the market has already priced-in a 50 bps rate cut by the Fed at the end of the month. So, that would not surprise. The key focus in the interim is obviously Bernanke 's speech today, where he will outline the economic outlook to the Budget Committee.

So, given the market is looking for a more dovish talk from the Fed with regard to rate cuts, I think that is what we want to hear. But as well I think the market is looking out for support from the Fed to the White House's fiscal emergency support plans in the economy, I think that could well be one of the key factors that the market will trade-off today.

Q: In his last speech that he made just about a week ago, there were several indications that Mr. Bernanke was very concerned about the US economy and that 2008 could be a year that is a lot worse than 2007 was. Do you think that a 50 bps rate cut would be well received by the market or that mid-40% probability of 75 basis points could actually increase if  Merrill 's results today are not that good and his speech is not all that dovish as you are expecting?

A: I think the rate cut by itself is going to be a panacea for the markets because the other factors at play really tell how to an extent the sell-off in the stock markets could continue. The slumping housing market in the US and how that affects consumer confidence and spending and the fact that there would be a lot of layoffs as well in the banking industry, and how that will play out on consumer demand.

So, I think the risks are very much tilted on the downside. I think even if the Fed delivers a 50 bps rate cut, which the market expects, it is not going to bring too much relief to the markets in the short-term. I think what is more needed is to see some kind of stabilisation in the housing market as well as in the stock markets, and hopefully that will put some floor on to the recent financial rout.

Q: What are you factoring going forward from the Fed in terms of rate cuts for the next six months? Also what will that do to liquidity coming into Asia and Asian stocks, and therefore what would be your position on Asian currencies, notably the dollar-rupee?

A: I think in terms of the Fed we are looking for more aggressive rate cuts. So, I think following this 50 bps rate cut, which the market expects and we can expect more to come. So, we perhaps could see the Fed lower rates to as low as 2.5% this year.

What that means for liquidity is that in the very short-term, I think the cut is not going to be the answer. I think we need to see some evidence of most write-offs been done and there is not going to be more to come. And hopefully the stock markets will stabilise, and that will put a floor to stocks and risk aversion.

In terms of what that means for Asian liquidity as well as Asian currencies, it implies that at this point in time where nothing is spared from the financial rout, Asia as well has also been taking it very hard. So, I think they will continue to play off of what is happening in the US, and therefore the risk remains on the downside.

But having said that, there is still some hope that at least domestically some of the rotational play into plantation stocks, agriculture stocks, as well as domestic demand stocks, will remain and there will be some bottom-picking.

So, I do see some support coming in for Asian stock markets and currently with the uncertainty that has been rising from the US with the US dollar still under pressure against Asian currencies, the view for Asian currencies still remains fairly positive against the US dollar.