Further euro gains are to be expected near-term

Euro

The catalyst for the dollar's sell-off this week were comments from US Treasury Secretary John Snow.

At the end of the G7 meeting in France last week, Snow played down the dollar's losses, saying that currency moves have remained 'fairly modest'. The comments reinforced the view that Washington was happy with a weak dollar. As a result the greenback plunged to a fresh multi-year low of $1.1738 on the first trading day, falling marginally short of its January 1999 launch level of $1.1747.

The greenback recovered some ground later in the day helped in part by remarks from St. Louis President William Poole that the U.S. economy has the potential to grow much more quickly and that the risk of deflation in the U.S. is minor.

On the following day, the greenback came under renewed selling pressure against most major currencies in reaction to comments from billionaire financier George Soros.

In an interview with CNBC, Soros stated that he was now short on the dollar as a result of what John Snow had been saying in recent days. Soros criticised the U.S. administration's new stance on the dollar, calling it a 'beggar thy neighbour' policy that will hurt European and world growth via competitive (US dollar) depreciation.

Also weighing on the U.S. unit were renewed geopolitical fears stemming from the government's raising of the terror alert level to high from elevated. Euro/dollar climbed to a high of 1.1745 but again fell short of its launch level apparently blocked by options-selling.

Midweek, the dollar received a brief respite as Federal Reserve Chairman Alan Greenspan, in his testimony before the Joint Economic Committee, delivered a mixed evaluation of the American economy. Greenspan maintained a cautious tone and characterised the timing and extent of the U.S. economic recovery as uncertain.

Additionally, he sought to offer comfort that the chances of a deflationary environment occurring in the U.S. remained remote and that the Fed possessed plenty of ammunition to combat deflation should it emerge. The single currency retreated to just above $1.16 level on profit taking.

Following the European Central Bank's (ECB) non-policy setting meeting on Thursday, the central bank did not offer a statement regarding interest rates. Although it is unclear whether a rate cut is forthcoming at the June meeting, ECB Governing Council member Welteke said the Bank would certainly deliberate whether another rate cut is necessary at the next meeting. He also acknowledged the adverse impact a stronger euro was having on the German economy.

Separately, French Finance Minister Francis Mer reiterated calls for the ECB to further ease policy, adding that such a move would help stabilise the EUR/USD rate. Meanwhile, jobless claims figures released from the United States again moved market players in euro's favour. Claims rose by 7,000 to 428,000 in the week ended May 17. The reading was higher than forecasts for 415,000 initial claims.

Euro/dollar pierced through its launch rate on the last trading day, as the greenback came under increased selling pressure due to falling U.S. equity futures and the unwillingness of traders to hold the greenback ahead of the long U.S. Memorial Day holiday weekend. EUR/USD surged to fresh four-year highs of $1.1838, in thin volatile trading, within reach of its all life-time high of $1.1886.

Further euro gains are expected in the near-term, throwing an additional burden on struggling European businesses, but probably helping the United States to overcome its own economic hassles through a cheaper dollar.

Range for the week: $1.1500 - $1.2000

Japanese Yen

Japanese government officials reiterated their intervention warnings at the start of the week as the USD/JPY currency pair traded around the 115.50 level.

Japan's Ministry of Finance (MoF) official Zembei Mizoguchi said there was no change in the nation's foreign exchange stance and that rates should reflect fundamentals and move in a stable manner. He also added that the G7 had agreed to co-operate on forex, if necessary.

Dollar/yen fell to 115.10, its lowest level since February 2001 as market players focused on U.S. Treasury John Snow's comments, despite jawboning from Japanese officials. However, the currency pair witnessed a sharp rebound of about two yen, helped by what traders thought was Japan's most aggressive intervention this year.

Japanese authorities declined to comment on whether they had intervened but Finance Minister Masajuro Shiokawa said on the following morning, that such action should be taken if there were unnatural moves in the market.

Thereafter, the greenback managed to hold ground close to or above the 117.00 level, for most of the trading week, as market players remained wary of intervention.

Separately, the Japanese government's bailout of Resona Bank, Japan's fifth largest bank heightened worries about the stability of the nation's financial system. Resona Bank will receive a public funds injection amounting to 2 trillion yen, and is seen boosting the bank's capital adequacy ratio which fell below the minimum accepted limits.

The greenback briefly touched a high near 117.80 yen on Thursday, with many attributing the move to sporadic yen selling by Bank of Japan.

Meanwhile the Bank of Japan downgraded its assesment of Japan's economy in its monthly economic report for the month of May. The BoJ cited activity remained flat due to a weak U.S. economy, the impact of SARS and volatile equity markets. The downgrade was the first since November 2002.

On the last trading day, the dollar's sell-off against the euro dragged USD/JPY below the 117.00 level, but lingering intervention fears helped support the greenback.

Range for the week: 115.00 - 119.00

Sterling

Sterling also rode the 'weak dollar' wave and catapulted to a high of $1.6468 in the course of the week. General dollar weakness helped to propel the pound higher while economic releases from the UK received an almost muted response.

Inflation data from the UK matched consensus forecasts and soothed fears that inflation could continue to creep higher. The key RPIX (retail price index) remained steady at 3.0%, marginally lower than the 3.1% forecast.

Meanwhile, minutes from the Bank of England's May 7-8 meeting indicated a 5 to 4 vote in favour of keeping interest rates unchanged at 3.75%.

Several opponents of an ease feared that reducing interest rates could trigger another steep fall in the sterling, which in turn could fan inflation even higher by raising the costs of imports. Other members expressed concern over the potential effects of a rate cut on encouraging a further rise in consumer spending.

Sterling recoiled modestly against the greenback after a marginal downward revision in the UK Gross Domestic Product (GDP) report. UK growth data showed an unrevised 0.2% qtr/qtr growth, matching the previous estimate, but annual growth was revised down to 2.2% from 2.3%.

Range for the week: $1.6100 - $1.6600