by Darrell Jobman, Editor-in-Chief TraderPlanet.com
The dollar came under heavy selling pressure in Asian trading on Wednesday after the Chinese comments and hit fresh record lows near 1.4730 in Europe. The dollar was able to secure a recovery in New York as Wall Street falls triggered a switch into US Treasuries while theEuroweakened on the crosses.
Chinese congress member Cheng Siwei suggested that China should increase the proportion of reserves held in stronger currencies such as the Euro. The remarks fuelled fears of diversification away from the dollar and further undermined confidence, especially after acentral bankofficial also stated that the US currency was losing its status as a world currency.
The US data recorded a stronger than expected increase in third-quarter productivity to near 5.0% which resulted in a small 0.2% decline in unit labour costs and will ease inflation fears to some extent. Markets are still expecting further interest ratecuts which is undermining the US currency and sentiment remains very weak, but volatility is liable to remain higher given the pressure for a correction.
The ECB will announce its interest rate decision on Thursday and the most likely outcome is that rates will be left on hold with growth doubts balancing persistent inflation fears. Assuming rates are unchanged, the comments from ECB President Trichet will be watched very closely with the dual focus on interest rate policy and the Euro’s value.
French President Sarkozy warned over the risk of an economic war if the dollar continued to weaken and called for the US to take greater action to support the currency. Markets will need to be on alert for intervention from the central banks.
The yen strengthened sharply in Asian trading on Wednesday with gains to near 113.30 as the dollar came under wider selling pressure. Gains extended to 112.80 in New York as Wall Street continued to weaken which increased defensive support for the yen.
Internationalmarket conditionsare likely to remain the dominant yen influence in the short term. The Japanese currency is still finding it difficult to gain strong independent buying support with investors looking to focus on commodity-related currencies when markets stabilise.
Underlying levels of risk aversion are, however, liable to remain very high in the short term which will provide important yen backing. This will be particularly important if global credit-related fears intensify as high-yield currency support will then weaken.
Sterling resisted a decline through the 0.70 level against the Euro on Wednesday and strengthened back towards 0.6960. The UK currency continued to take advantage of dollar vulnerability and pushed to fresh 26-year highs above 2.10.
TheBank of Englandwill announce its latest interest rate decision on Thursday. The net evidence suggests that the bank would prefer to keep rates on hold in the short term, especially as a cut now could be considered as a panic move.
The weak data this week, allied with a renewed increase in credit fears and Sterling gains, has increased pressure for a rate cut. A reduction this month should, therefore, certainly not be ruled out with a split vote likely. The UK currency will be vulnerable to a sharp initial decline if rates are cut, although with buying support realistic on dips.
The Swiss currency continued to gain ground against the Euro on Wednesday with highs around 1.6585 before consolidation around 1.66. The Swiss currency also strengthened to highs near 1.1260 against the dollar, the highest level since early 2005, before a recovery to 1.1350.
The franc continued to gain support from underlying credit-related stresses and fears over further global debt write-downs as global stock markets came under fresh selling pressure.
Underlying confidence in the Swiss economy should remain firm in the short term, although the KOF institute warned that growth would slow over the next two quarters.
The Australian dollar has continued to gain ground with a move to highs near 0.9400 in local trading on Thursday. The Reserve Bank increased interest rates to 6.75% from 6.50% and the firm statement was on inflation maintained expectations of a tough short-term policy.
The Australian currency will gain support on yield grounds, especially with high commodity prices. There will still be unease that credit-related stresses will undermine the Australian economy and overall interest in carry trades is liable to be lower. These risks were illustrated by a decline back to near 0.93 in New York as Wall Street came under strong selling pressure.