US Dollar Remains on Shaky Footing Ahead of Pivotal Fed Meeting

by James Chen

The US dollar remained on shaky footing to start the new week as the markets awaited this week’s long-anticipated Federal Reserve meeting, when a decision will be announced as to whether or not the Fed will raise rates this year for the first time in nearly ten years.

Last week saw the greenback largely mixed as it pulled back significantly against several major currencies, most notably the Japanese yen, while strengthening against commodity currencies like the Canadian dollar and Australian dollar.

The US dollar pullback was initially prompted in the prior week by a sharp surge in the euro as the European Central Bank took weaker-than-expected measures to stimulate the European economy. This was exacerbated by the fact that much of the broad-based expectations for a Fed rate hike this week had already been substantially priced into the strong US dollar.

For USD/JPY, the retreat has been especially severe. For this currency pair, the dollar pullback was combined with new volatility in the global equity markets that prompted yen-buying, pushing USD/JPY down to more than a one-month low below 121.00.

The euro and pound also gained against the falling dollar, with EUR/USD briefly hitting a high above 1.1000 and GBP/USD temporarily reaching above 1.5200.

In the case of commodities and commodity currencies, gold and crude oil both fell substantially, with oil taking an especially severe slide on ever-growing oversupply fears. This placed tremendous pressure on the Canadian dollar, with USD/CAD reaching up well above its 1.3600 target. The Australian dollar also took a commodity-linked hit as it fell back down to key support around the 0.7200 level.

This past Friday brought a few key economic data events in the US that were better-than-expected but failed to provide support for a weakening US dollar. US Core Retail Sales rose in November by more than expected, and the Producer Price Index, a key indicator of inflation, was also up more than expected.

Despite these positive signs pointing to an even better case for a Fed rate hike this week, the US dollar continued to fall on Friday against most other major currencies, with the continued exception of the commodity currencies, as stock markets also felt increasingly severe pressure.

As this Wednesday’s Fed meeting draws ever closer, and some have deemed a rate hike almost a foregone conclusion, the dollar is likely to find some support, especially if the Fed’s statement includes some hawkish language in reference to an ongoing monetary tightening cycle. Even if there is no such language, however, the monetary policy divergence between the Fed and most other major central banks is currently well-defined and should contribute to continued dollar strength going into 2016.

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