USD Supported by Rate Hike Expectations

by Korman Tam

The greenback maintained its buoyant tone against the majors at the start of the week, rallying to a fresh 3 ½-month high versus the yen at 108.56 and 1.5348 against the euro. Despite US Treasury Secretary Hank Paulson continuing to talk up the dollar at the meeting, there was no official mention of currencies in the communiqué from the G8 Finance Ministers meeting. Further, there was also no discussion of possible coordinated intervention to prop up the dollar. The primary issue of concern at the meeting was tackling sharp rises in global inflation, particularly rapid increases in the prices for commodities and oil. Nonetheless, the dollar managed to shrug off the lack of mention at the meeting and continues to hold onto its gains.

Economic data released earlier in the session saw the June NY Fed manufacturing survey contract by more than anticipated at minus 8.68, versus expectations for an improvement to minus 2 from minus 3.23 in May. Meanwhile, the April TICS data revealed net capital inflows increasing to $60.6 billion, a sharp reversal from net sales of $48.2 billion in the previous month. The NAHB housing market index fell to 18 in June, down slightly from a reading of 19 in May.

The coming week will see several key economic reports from the US including May PPI, Q1 current account balance, May housing starts, industrial production, capacity utilization, June Philadelphia Fed manufacturing survey, and May leading economic indicators. Inflation is seen creeping higher with PPI expected to edge up to 0.8% in May from .2% a month earlier, while the excluding food and energy PPI is expected to ease to 0.2% from 0.4%. Housing starts are expected to remain weak, at 980k in May and down from 1.03million units from April.

Richmond Fed President Lacker chimed in on the chorus of recent hawkish comments suggesting the next move will be a hike in interest rates. Lacker said the balance of risks has evolved from earlier in the year and the FOMC will need to adjust rates accordingly. He also said that the dollar impact on potential inflation is a prominent risk that the Fed has in mind. Lacker added that while inflation has been unacceptably high, it has not resulted in higher expectations. Nonetheless, he said the Fed must not be complacent on inflation and the central bank must act forcefully if expectations erode. In the near-term, the dollar will continue to be supported by heightened expectations that the Fed may begin tightening policy as early as September of this year.

Taken from:
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