The dollar held within a whisker of a fresh two-year high of Y116.78 against the yen after Tuesday’s widely expected interest rate rise by the US Federal Reserve.
The greenback was also buoyed by solid manufacturing data. The Institute of Supply Management’s manufacturing index eased to 59.1 in October from 59.4, but a fall to 57.2 had been forecast.
The Fed voted unanimously to raise interest rates for a 12th consecutive time to 4 per cent. Economists expect the rate cycle to peak at 4.5 or even 5 per cent next year following a flood of hawkish comments on containing inflation.
The statement repeated that policy accommodation can be removed at a “measured” pace. While rising energy costs “have the potential to add to inflation pressures” the committee added that underlying inflation was still “contained”.
After the Fed decision, the dollar was 0.3 per cent higher on the day at Y116.70 against the yen, but had eased 0.1 per cent to $1.1997 versus the single currency.
Unless steered otherwise by Fed-speak, it seems sensible to expect further 25-basis point tightening moves at upcoming meetings,” said Joshua Shapiro, chief US economist at MFR.
Monica Fan of RBC Capital Markets argued that “rising US rates alone will not guarantee further broad based appreciation in the dollar, especially if yield appetite declines and/or risk aversion climbs markedly”.
But she added that the real impact of widening US-Japanese interest rate differentials on currency hedging will not dissipate soon and we expect dollar/yen to stay propped up above Y110.0 in the short-term.”
In Japan, signs of a sustained economic recovery encouraged investors to buy foreign assets. The Bank of Japan may be moving to dumping its ultra easy monetary policy but no move away from near-zero interest rates is expected for months.
Japan’s finance minister Sadakazu Tanigaki said on Tuesday that “mild deflation remains and we need to continue making efforts to overcome it”. A sustained move away from deflation is key to a BOJ policy move.
Two factors weighed on the euro. First, the European Central Bank is not expected to raise rates until December at the earliest.
Second, strife within the Social Democrats in Germany caused by the resignation of Franz Münterfering, SPD chairman, on Monday, has led to growing fears the new coalition government in the eurozone’s biggest economy may become unstable.
“Coalition talks were due to end by 12 November and Münterfering’s announcement could potentially lead to a breakdown in coalition talks with an outside chance of new elections needed to form a government,” said Paul Mackel of ABN Amro.
But on the positive side the latest eurozone manufacturing PMI survey rose to 52.7 in October slightly ahead of expectations.
The $1.20 level is pivotal, with “concern longer-term market participants will again take advantage of euro/dollar levels around $1.19 to unload surplus dollars” propping up the euro, said Daniel Katzive of UBS.
The euro gained 0.3 per cent to Y139.89 to the Japanese currency and 0.6 per cent on the pound to £0.6803.
Improvement in the UK property market and better-than-expected PMI manufacturing data failed to support sterling.
“We’ve reached neutrality (in terms of monetary policy) in the UK. There is no promise of higher yield, but there is the promise in the US and eurozone,” Mr Towner of HIFX said.
Howard Archer of Global Insight felt UK interest rates would fall again in the early months of 2006. The pound fell 0.5 per cent to $1.7619 against the greenback.
The Indonesia rupiah rose 1 per cent to Rp10,015 against the dollar after Bank Indonesia raised interest rates by 1.25 percentage points to 12.25 per cent.
