Thursday October 20, 2005 - 10:26:02 GMT
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INVESTICA Ltd - www.investica.co.uk
The dollar weakened back towards 1.20 in New York on a reduction in long dollar positions. The Euro was unable to push through this level and held close to 1.1965 in early Europe on Thursday.
Interest rate expectations will remain important with markets still looking for a series of rate increases from the Federal Reserve to combat inflation. Comments from Fed governors Kohn and Fisher maintained the tough stance on Wednesday with both governors pledging that action would be taken to contain price pressures. The Fed's Beige book reported that growth was firm while energy prices had pushed up inflation. The Fed will be worried by reports that companies were having some success in passing on price increases and will remain on inflation alert. There were, however, reports of weakness in retail spending within the Beige book and this illustrates that there are growth risks to the US economy. The dollar will also still be hampered by the fact that the US currency has already discounted a series of rate increases and vulnerability will start to increase if there is evidence of a more sustained downturn in spending.
There was evidence of further central bank Euro buying close to the 1.19 level on Wednesday and this Euro support is likely to continue in the short term. ECB Chairman Trichet also warned that the ECB would take decisive action if necessary, effectively hinting over an interest rate increase, possibly this year. This will offer Euro support and make it more difficult for the dollar to break resistance levels.
As well as interest rate expectations, Fed officials Geithner and Pianalto chose to focus on the US current account imbalances. Attention on the issues will tend to increase if there is a sustained decline on Wall Street and this would tend to expose the dollar to selling pressure, although there was a rally on Wednesday. Risk tolerance will have a mixed impact on the dollar. A sell-off in emerging-market investments on rising risk aversion would tend to support the dollar, especially if there is a flow into US Treasuries, but the longer-term implications of a shift into defensive currencies would be less benign for the dollar.
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