Thursday March 17, 2005 - 10:50:30 GMT
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INVESTICA Ltd - www.investica.co.uk
Temporary dollar relief
The dollar failed to recover ground ahead of the US data and was put under pressure by the US current account figures. The dollar weakened to 1.3435 against the Euro, although it managed to avoid a further test of 1.3475 and also managed to stabilise around the 1.34 level before edging higher in early Europe. The dollar was unsettled slightly by the poor Dow Jones performance and by the strength of oil prices.
The fourth-quarter US current account deficit was higher than expected at US$187.9bn from US$165.9bn the previous quarter. This shortfall pushed the annual deficit to US$665.9bn from US$530.7bn the previous year, equivalent to 5.7% of GDP. The deficit of this size will remain an important medium-term negative influence on the US currency. The details of the report were also disappointing with a widening deficit of foreign direct investment as there were net outflows of over US$65bn. This will be particularly disappointing as the previous figures had shown some improvement. The surplus on investment income also narrowed to US$2.1bn for the quarter. The US has managed to defy fears that it would start to run an investment income deficit over the past few years, but the time of reckoning is drawing closer as the US foreign debt level continues to increase. The deterioration in the current account and financial account will increase the dollar's risk profile. There will also be fears over reserves diversification after the announcement of a changed currency regime by the Ukraine. Although the specific amounts involved are minor, the change will maintain fears over a more general longer-term trend away from the dollar and maintain the risk of dollar reserves selling.
Interest rate trends will remain important, especially with some speculation that the Federal Reserve will drop the word measured as well as increase interest rates next week. If the language is changed there will be greater speculation over a faster pace of interest rate increases, although the prime impact will be to increase uncertainty. The more likely outcome is that the Fed will retain the measured stance for now. Rising US bond yields will increase the risk of a closing of high-yield currency trades funded through the dollar and this will lessen the short-term risk of sharp near-term dollar losses.
The Euro gained some support from reports that the ECB could increase interest rates by September. The inflation rate also rose to a revised 2.1% for February from 2.0%which will maintain some concerns over inflation and this will offer some background Euro support.
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