US Dollar Strengthens As Monetary Policy Remains Loose

Posted December 16, 2009

The US dollar strengthened as the US Federal Reserve meets. The Australian dollar weakened after central bank indicates interest rates will stay at current rates. The Canadian dollar fell against the US dollar. Mexico’s budget gap remains too large for a stable economy.

 

The US economy is improving but unemployment remains at 10 percent. As long as unemployment is high the economy will not be able to fully recover. Simply stated – consumers will continue to maintain tight budgets rather than borrow and spend. In addition, credit markets remain locked up. The US Federal Reserve is moving slowly until policy makers are comfortable the recovery is on solid footing.

The  US dollar strengthened to a 2-month high against the euro at one point yesterday when it hit $1.4504.  The greenback ended the day at $1.4534. The dollar was at 89.58 yen per dollar.

The big question facing most central banks is when to begin tightening monetary policy. Tighten too soon and the recovery could be shut down. Tighten too late and inflation could occur. But in the US the signs of consumer prices and new housing start increases is fueling speculation the US Federal Reserve will have to move sooner rather than later.

Right now the best guess by analysts is that the interest rate will be raised by a quarter percentage rate before the middle of next year. The Fed is not expected to make any changes at the end of its current meeting nor during the first quarter of 2010.

The Australian dollar weakened against the US dollar to 89.77 US cents. The weakening is attributed to a reaction to comments made by the central bank leading investors to believe interest rates would be held at current rates for a while. The Australian economy expanded by a weak .2 percent in the third quarter of the year compared to the 2nd quarter.

The European Central Bank also plans on keeping interest rates at current levels for the first part of 2010. But the central bank has begun to withdraw stimulus programs initiated during the recession to prop up financial markets.  It is stopping the 12 month tender program and is ending 6 month loans after March among other measures.

The Canadian dollar weakened slightly against the US dollar. The loonie was at C$1.0614 against the US dollar. Though oil prices are rising  adding strength to the Canadian dollar, the rising threat of inflation in the US is spurring on a stronger dollar over talks of higher interest rates. The stronger dollar outperformed the stronger Canadian dollar.  One Canadian dollar buys 94.40 US cents.

Mexico is still facing another credit rating reduction if it is unable to get its budget deficit under control. The deficit is widening despite measures taken to reduce the gap. The peso has been the best performing emerging market currency in the last month after the country’s credit outlook was changed to stable. But a widening deficit could reverse this trend.

 

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