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The dollar battling to keep afloat
Dollar sickness went from worst to chronic during the past week as softer than expected US economic data and persistent worries about a slowdown in the housing market, spooked investors made them expect the Federal Reserve to ease on interest rates.
On the other hand, German business confidence survey reinforced expectations that the euro zone interest rates would go higher. The mere divergence between monetary policy in the euro zone and that of the US had undermined the positive sentiment on the dollar. The interest rate differential between the euro and the dollar was seen by economists to be narrowing down and many were predicting that the European Central Bank would increase borrowing rates to 4.0 % while the US rates were seen falling to 4.50 percent.
The dollar dogged down again after Federal Chairman Ben Bernanke, in his testimony in front of the Congressional committee, commented that the slowing down of the housing market had clouded the US economic outlook. He, however, maintained that the central bank had so far not shifted its bias away from fighting inflation. Overall, his testimony was seen as a mixed bag because on one hand, Bernanke reinforced his commitments to fight inflation and, on the other hand, he showed his anxiety concerning the economic outlook of the US.
The dollar got a brief respite towards the end of the week, after revised data showed that the US economy grew at a faster pace in the fourth quarter of 2007 than initially reported. Gross domestic product showed that the US economy was more resilient that what previously thought. This supported the view that the Federal Reserve would not cut rates anytime soon. In addition, the US government reassured the market on fears of geopolitical tensions escalating between Iran and the US Government officials stated that it remained committed to pursuing a diplomatic route to avoid a full-blown confrontation.
Towards the end of the week, all hell broke lose as the greenback got pummeled after the US government stated that it would impose import duties on coated paper from China. According to analysts, a trade war, with duties imposed on both sides, would hurt the demand for US exports by making them more costly in foreign markets, slowing US growth. Besides, it would make imports more expensive to the US adding to inflationary pressures. In addition, China could diversify its foreign exchange reserves away from the dollar. China held a trillion dollars in foreign exchange reserves at the end of 2006 consisting of approximately 70 percent of US dollars. Against the Mauritian rupee, the dollar was trading at MUR 32.852 yesterday compared to MUR 32.933 a week earlier.
No inflatory risk on British economy</B>
Sterling lost some precious time to get off the starting block as it suffered several setbacks at the beginning of last week trading. In a testimony to a parliamentary committee, the Bank of England’s governor Mervyn King commented on the slowdown of the housing market. According to the central bank’s official, the forecast for inflation would hover around 2 percent and that would present no serious inflationary risks on the economy. Immediately the pound sunk, as the testimony caught market players wrong footed and threw cold water on a 25 basis point hike in interest rates in the near future. The second blow for the pound came in after a report showed that UK’s current account deficit in the fourth quarter hit a record 12.7billion pounds, up from 10.5billion in the third quarter. These prompted investors to unwind risky carry trades where they invested in high-yielding Sterling.
Toward the end of the week, the pound recovered as expectation grew rampart that the BoE would be hiking up UK’s interest rates this week. The market was becoming increasingly hawkish and was pricing a 40 percent chance of a rise on Thursday. Against the Mauritian rupee, the Sterling was trading at MUR 64.99 yesterday as compared to MUR 65.04 a week earlier.
The yen had seesaw sessions as many Japanese institutions were wrapping up the end of the financial year. Market players were also keeping an eye on the Japanese equity markets to gauge the willingness of investors to hold risky positions after the big fall of 9 percent in the Nikkei share average. According to analysts, equity markets would dictate the direction of the yen in the near term. Carry trades, in which investors borrowed funds in low-yielding yen to fund purchases of higher yielding currencies or assets such as stocks, had flourished quite well in the past in low volatility markets. Against the Mauritian rupee, the yen was trading at MUR 27.87 as compared to 27.88 same as a week earlier.
<B>Vassan CALEEMOOTOO</B> <I>Contributed by HSBC</I>
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