Dollar enters volatile phase

Euro

The dollar traded on a volatile note for most part of the week as markets continued to digest China's revaluation of the yuan last week. China's first step towards a more freely-floating exchange rate is not expected to be followed up with another move anytime soon.

The initial rush to sell dollars has since faded, allowing investors to lock in profits. The dollar lost ground tempered by weaker-than- expected U.S. consumer confidence data. The Conference Board's confidence index fell to 103.2 in July from a revised 106.2 in June against expectations of 106.0.

The euro, meanwhile, failed to get a lift from a survey that showed improving business conditions in Germany, Europe's largest economy, and from a Reuters report citing eurozone central bank officials saying interest rates are unlikely to change this year.

Dollar gains were further eroded after unexpectedly strong U.S. economic data failed to push it through key technical levels against the euro. U.S. durable goods orders rose 1.4 percent in June compared with an upwardly revised 6.4 percent increase in May. Economists had anticipated a fall of 1 percent in June.

Other components of the report were also stronger than expected. Non-defence capital goods orders excluding aircraft, considered a proxy for business spending, jumped 3.8 percent from a 0.6 percent decline in May.

Meanwhile, the Federal Reserve's latest snapshot of the U.S. economy, its so-called 'Beige Book' also failed to give the dollar much support. It showed that economic activity continued to expand in June and early July, suggesting a relatively robust economy.

However, it also said labor market hiring was mixed and pricing pressures eased or were flat in most regions, which could temper expectations of dollar-supportive interest rate rises.

The dollar snapped out of its weak mode on the last trading session and gained ground against most major currencies after a string of data releases showed U.S. economic activity remains solid. U.S. second quarter gross domestic product growth was in line with expectations and a July reading of Midwest manufacturing activity was well above forecasts, suggesting no end anytime soon to the Federal Reserve's program of raising interest rates.

But inflation measures in the GDP data were softer than expected, thereby cooling some expectations of just how high the Fed will hike rates. The Fed has raised its key Fed funds 225 basis points to 3.25 percent in the past year with markets largely expecting a rise in the fed funds rate to 4 percent by year-end.

In the coming week markets will focus on a slew of economic numbers from the U.S. which includes the U.S. employment, factory and services data to help gauge how higher borrowing costs are affecting the economy. Meanwhile, the European Central Bank is expected to keep interest rates on hold at 2.0 percent when they meet next Thursday.

Range for this week: $1.1950-$1.2250

Japanese Yen

The dollar edged up against the yen, as markets looked past Chinese yuan's revaluation to upcoming economic data for clues on how high U.S. interest rates will climb.

Meanwhile, the People's Banks of China said foreign media reports were wrong in calling Beijing's long awaited but modest boost to its currency last week a precursor for further appreciation.

Over the long term, uncertainty about how China intends to proceed could prevent the dollar from rising sharply versus the yen, which is often bought as a proxy bet on a rise on the yuan and other Asian currencies.

Political concerns in Japan before next week's vote on controversial post office reform, a centrepiece of Prime Minister Junichiro Koizumi's reforms, have also weighed on the Japanese currency. Koizumi has said he may call a general election if the bill, which would privatise Japan Post, is not passed.

Range for this week: Y110.50-Y113.50

Sterling

Sterling rose to highest level this week against the dollar despite data that showed annual British house price inflation at a nine-year low in July.

Meanwhile, confidence data showed that British consumers appeared to shrug off the impact of the July 7 bombings in London, but separate figures on consumer borrowing and mortgage lending underscored weakness in the UK economy.

The Nationwide property data met market expectations and cemented the majority view that the Bank of England will cut interest rates to 4.5 percent from 4.75 percent in August after four out of nine policymakers voted for a cut.

Range for this week: $1.7400-$1.7700