The euro pushed above $1.25 against the dollar on Thursday for the first time since May as the US currency came under pressure amid growing fears that rising gasoline prices in the wake of Hurricane Katrina will weigh on economic growth.
Market sentiment remained jittery. News that president George Bush was meeting Federal Reserve chairman Alan Greenspan to discuss the storm’s economic impact sparked renewed trading floor chatter, including rumours the Fed might even cut interest rates when it meets later this month.
By mid-afternoon in New York, the dollar had fallen as low as $1.2524.
“When Greenspan said last week that monetary policy was taking asset prices more into consideration these days, we felt he meant housing prices. He may well mean energy prices too,” said Michael Woolfolk at Bank of New York.
The markets have rowed back from a view that the US central bank would tighten monetary policy at each of the year’s three remaining meetings, taking rates to 4.25 per cent.
Even year-end rates of 4 per cent are being priced out by the futures market, while the yield on two-year US Treasuries is down from 4.06 per cent to 3.75 per cent in the past two days, reducing yield support for the dollar.
Worries about the US economy had been reinforced earlier by data that showed the US economy was already under the pressure of rising energy prices even before Katrina struck.
The US Institute of Supply Management’s factory activity index undershot forecasts, falling three points to 53.6 in August, confounding expectations for a modest rise and echoing a weak report on activity in the Chicago area from a survey of purchasing managers.
Furthermore, the ISM data showed prices paid by supply managers rose sharply higher, reflecting the surge in energy costs.
There were also signs that consumers are coming under pressure. The core personal consumption expenditure deflator – the Fed’s favoured measure of inflation, and one that strips out energy prices – was an unexpectedly soft 1.8 per cent in July, despite the US savings ratio actually falling below zero.
Calyon estimated US gasoline prices could soon exceed an average $3.50 a gallon, cutting third-quarter GDP growth by half a percentage point and fourth quarter growth by 1.5 points. Goldman Sachs saw growth being squeezed by about half a point in the third quarter and possibly the fourth.
Mansoor Mohi-uddin, chief forex strategist at UBS, yesterday raised his one and three-month euro/dollar forecasts by 4c apiece to $1.27 and $1.29 respectively. He sees US rates going no higher than 4 per cent at a time when many other central banks will be raising rates, or at least making more hawkish noises.
The dollar slid to $1.8371 against sterling, a two-month low and down nearly 3 per cent in just two days. The greenback also fell to Y110.01 against the yen and to SFr1.232 against the Swiss franc.
Despite this, not everyone was universally downbeat on the dollar. Shahab Jalinoos, currencies strategist at ABN Amro, saw it potentially benefiting from the rebuilding operation needed in the Gulf and the need for European insurers to buy dollars to settle claims. Other analysts also took consolation from the fact that a US slowdown could at least help narrow the current account deficit.
Elsewhere, sterling was strong, rallying 0.5 per cent to £0.6808 against the euro and 0.8 per cent to Y201.16 against the yen as an index of UK manufacturing activity returned to expansion for the first time since March.
Smaller European currencies such as the Norwegian krone, Polish zloty and Czech koruna also jumped to multi-month highs against the euro, with Mr Mohi-uddin seeing buyers coming forward in the belief that their relative illiquidity would propel them to faster gains against the dollar.
