By Peter Garnham in London
Published: August 10 2008 18:55 | Last updated: August 10 2008 18:55
This week will be crucial in determining whether the dollar has broken free from its six-year downward trend, as speculation mounts that the US is in the best position to emerge quickly from the economic downturn.
The dollar index, which measures its value against a basket of six major currencies, put in its best performance for over three-and-a-half years last week and boosted the dollar to its highest level for four months.
Against the euro, the dollar surged more than 5 cents, taking it more than 6 per cent higher than the low it hit last month.
Amid thin August volumes, traders believe there will be impetus to push the euro-dollar rate below the $1.50 barrier from its Friday figure of $1.5014 and to send sterling-dollar towards $1.90, consolidating last week’s 2.9 per cent fall to $1.9189.
Analysts say the turn towards the dollar reflects surprise that the fallout from the credit crisis has had such a marked effect on economies outside the US.
They say other central banks, unlike the Federal Reserve, have been slow to respond to a potential slowdown, refusing to cut interest rates as they focus on fighting inflation.
However, Jean-Claude Trichet, president of the European Central Bank, warned of a slowdown in the eurozone in the coming months, quashing expectations of higher interest rates.
The trend is expected to be confirmed by data from Germany this week, which is forecast to show that growth contracted in the second quarter.
Japanese officials have warned that the economy is heading for recession, while UK data continue to deteriorate and the Reserve Bank of Australia has said it is set to cut interest rates.
Ulrich Leuchtmann at Commerzbank said in a note he expected the dollar to rise “like a phoenix”. He said low US interest rates were not a burden on the dollar but an attraction, proof that the Federal Reserve was able to react quicker to turmoil than other central banks.
He said that in a very short period, “sentiment turned by 180 degrees – the market now believes that the US economy once again will be able to leave a crisis behind very quickly”.
David Deddouche at Société Générale believes a wider adjustment is taking place that will send the dollar higher.
He said the decoupling theory pushed the dollar down to multi-year lows. “We believe this is one of the weakest assumptions embedded in the pricing of financial assets,” he said.
Copyright The Financial Times Limited 2008
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