Fed policy and weak data see dollar index hit 16-month low

The dollar dropped to its lowest level for 16 months this week as the prospect of the Federal Reserve maintaining its ultra loose monetary stance continued to undermine the currency.

Analysts said the Fed’s position contrasted sharply with that of other big central banks, most notably the European Central Bank, which were expected to tighten monetary policy to counter intensifying inflationary pressures.

The dollar suffered as weak US economic data, including worsening trade and retail sales figures, and lower-than-expected core consumer price inflation pushed Treasury yields lower.

The dollar index, which tracks its progress against a basket of six leading currencies, fell 0.4 per cent during the week, hitting a 16-month low of 74.617 on Thursday.

Traders said the activity of emerging market central banks, especially in Asia, was exacerbating the dollar’s fall.

That was because as emerging markets’ central banks intervened to stem the rise in their own currencies, they built up their dollar reserves. In turn, reserve managers were diversifying a proportion of those new reserves away from the dollar into other large liquid currencies, such as the euro and the Australian and Canadian dollars.

Those diversification fears were heightened after China revealed that its foreign exchange reserves had risen to a record $3,050bn by March’s end.

The dollar also dropped to a 15-month low of $1.4520 against the euro on Wednesday, with the single currency showing little reaction to fresh worries about the fiscal health of countries on the periphery of the eurozone later in the week.

Jane Foley, at Rabobank, said news of a debt downgrade for Ireland and speculation about a restructuring of Greek government debt was hardly a surprise for investors: “Interest rate differentials remain the primary driver for the euro against the dollar.”

“The euro is likely to push higher and the dollar is likely to continue its journey towards its lows.”

The dollar did find some respite against the pound, rising 0.3 per cent to $1.6336 on the week as expectations for UK monetary tightening were pushed back after consumer price inflation came in lower than expected.

The dollar fell 1.8 per cent to Y83.17 against the yen on the week and lost 1.2 per cent to SFr0.8946 against the Swiss franc as falling Treasury yields weighed on the US currency.