Concerns over the health of the US economy

Comments by US and European officials kept the dollar supported but the Japanese yen broke away from the pack as it tested a fresh five-year high of 101.80 per dollar due to calls from Europe for flexible Asian currency policies.

The dollar is likely to be supported by expectations of higher US interest rates, but the release of US inflation and capital inflows data in the week ahead could have a detrimental impact on the fortunes of the greenback.


Euro
The euro got off to a cautious start after coming under pressure in the previous week following strong comments from US Treasury Secretary John Snow, who reminded markets that the US remained committed to a strong currency policy. Expectations of rate hikes in the United States continued to support the dollar as markets braced themselves for the release of the all-important US trade deficit for November - seen as crucial to the future of the world's largest economy. As the week progressed, the euro managed to recover some lost ground as the lack of fresh bids to buy dollars faded due to unfavourable expectations on the US trade gap. An improved reading on the German ZEW research institute's Expectations index, which rose to 26.9 in January from 14.1 in December, against expectations of a rise to 17.0, also supported the euro higher.

The euro remained steady but made consistent forays towards the upper end of the range as market players looked ahead to the key US deficit - forecasted to show an improved $ 54.0 Billion in November.

The release of the much-anticipated data brought forth more problems for the greenback as the deficit climbed to a new record $ 60.3 Billion, and indicated that exports had slowed down in contrast to a sharp pick up in imports. The data triggered a moderate sell-off, as the dollar was caught in a tidal wave of its own whilst the euro sprinted higher towards $ 1.3300 levels.

As markets pondered on the United States' ability to bridge the gaping deficits, comments from Fed officials indicating higher US interest rates kept a check on the euro's gains. Comments by ECB's chief economist Otmar Issing who called on Asia to absorb more of the dollar's weakness also helped the dollar, as markets kept their appetite for euros at a minimum. As the week progressed, the release of healthy US retail sales data for December, which recorded a gain of 1.2 pct helped the dollar regain its footing although traders remained cautious in taking it to a new high for the year. The European Central Bank kept interest rates unchanged at 2.0 pct as expected, whilst market reaction was muted as traders largely ignored the decision.

Comments by US St. Louis Fed President William Poole who hinted that US rates may appreciate faster than predictions also supported the dollar, whilst confirmation of the country's long standing strong dollar policy from President George W. Bush himself also added fuel to the dollar. The comments coupled with healthy US economic data showing a rise in producer prices for December and a pick up in industrial production helped the dollar end the week unchanged.

The release of US inflation data for December and capital flows data for November will hog the limelight next week, with the dollar's fortunes largely dependent on the latter; as markets seek further insight to the future of the US economy and it's growth in the midst of a widening deficit problem.

Last week's Range: $ 1.3053 - $ 1.3292
Against AED: 4.7944 - 4.8822

Range for this week: $ 1.3000 - $ 1.3300
Against AED: 4.7749 - 4.8851



Japanese Yen
The yen put on an aggressive display at the start of the week, as it remained resilient in the face of the dollar's new-year rally ignited by expectations of higher US interest rates. As the week progressed, the release of a wider-than-expected US trade deficit for November helped the yen notch up sizeable gains as the dollar retreated against all major currencies.

With market players focussing on the release of key US data, the yen continued to edge higher against the greenback and the euro in the wake of comments from Europe, suggesting that Asian currencies should take more of the weak dollar burden than Europe. Otmar Issing - the chief economist of the ECB, commenced the rhetoric, which was also repeated by the President of the ECB Jean-Claude Trichet, who called on China and other Asian economies to adopt flexible currency policies.

The release of a healthy set of US economic indicators towards the end of the week failed to dent the yen's climb higher as market players continued to bet on a higher yen - eventually pushing it to a 5-year high of 101.80 per dollar.

Last week's Range: 101.80 - 105.03
Against AED: 0.03497 - 0.03608

Range for this week: 101.50 - 104.50
Against AED: 0.03515 - 0.03619


Sterling
Sterling commenced the week on a softer note after coming under pressure in the previous week following comments by US Treasury John Snow who reiterated his government's commitment to a strong dollar policy. Data showing a drop in UK producer prices - by 0.4 pct in December pushed the pound lower; although growing expectations of a wider-than-expected US trade deficit helped it back on its feet.

Midweek, as markets witnessed a new record trade deficit in the United States, Sterling cantered higher following a broad sell-off in the greenback. In contrast, the trade gap in UK recorded a narrow 4.6 Billion pounds and supported the pound higher. As the week progressed, a surprise fall in UK manufacturing output added renewed pressure on the pound, whilst the decision by the Bank of England to keep interest rates unchanged also went unnoticed.

As the week drew to a close, Sterling suffered further losses as markets focussed their attention on the future of British interest rates with speculation of the next move being negative. UK inflation and jobs data for December due next week is likely to receive close attention as investors seek further clues on the direction of UK interest rates.

Last week's Range: $ 1.8632- $ 1.8940
Against AED: 6.8435 - 6.9567

Range for this week: $ 1.8550 - $ 1.8850
Against AED: 6.8134 - 6.9236