FX: Dollar Rallies On Improving US Economy


By Gordon Platt

The dollar strengthened following a surprisingly strong US employment report for April, while the European Central Bank cut rates and hinted at more monetary policy easing to come.

Analysts say the US jobs report, with the unemployment rate falling to 7.5%, the lowest since 2008, lessened worries that economic growth was slowing.

John Curran, senior vice president at USForex and CanadianForex, which offer fund transfer and foreign exchange services, says: I am bullish on the dollar for the long term, with some members of the Federal Reserve talking about pulling back QE [quantitative easing] and positive fundamentals creeping back into the market. The dollar will obviously rise against the yen, with 120 [yen to the dollar] coming down the road.

Curran says that commodity currencies, such as the Australian and Canadian dollars, are losing their luster. The Australian dollar fell sharply in early May after the Reserve Bank of Australia cut its key borrowing rate to an all-time low of 2.75% from 3%.


The big-picture game in the FX market is monetary policy, Curran says. Until the Fed announces that QE is ending, currencies likely will hold to relatively narrow ranges. Once the Fed takes the markets off life support, we will see what will happen.

Alistair Cotton, senior analyst at Currencies Direct, a London foreign exchange broker and international payments provider, says that interest rates are the main driver in the FX market and what gives it traction. The Fed is holding fire and the ECB [European Central Bank] could potentially cut rates again later this year.

On May 2, the ECB cut its main refinancing rate by 25 basis points to 0.5%. It also cut the ceiling of its rate corridor by 50 basis points. ECB president Mario Draghi also seemed open to a possible reduction in the central banks deposit rate, which is currently at zero, to a negative number.

The ECB wants banks to stop hoarding cash at the central bank and to get credit flowing, Cotton says. The problem is that a negative rate would create problems for money market funds, and many of them would have to close. Such a move could cause more problems than it is worth.


Long-term unemployment is a major issue in Europe, according to Cotton. The current course of unemployment in Greece, Spain and Portugal, for example, looks unsustainable, he says. You cannot have 25% and 30% unemployment without eventual social unrest.

Marc Chandler, global head of currency strategy at Brown Brothers Harriman, believes that Draghis assessment that inflation risks are balanced may be misplaced. The flash April euro area CPI was 1.2%, M3 [money supply] is sluggish, and private-sector lending has fallen. Draghi clearly kept the door open to additional action, he notes. Given the recent surveys from Germany and the poor performance of France and the Netherlands, Draghi had little choice but to recognize that the economic weakness is not confined to the periphery.

However, Draghi also believes that structural reforms are needed to address the high unemployment rate. Unlike the Fed, he argues that reducing unemployment is not an appropriate aim of monetary policy. Therefore, says Chandler, he calls on the national governments to pursue structural reforms. That the [governments] move too slowly, if at all, was cited by Draghi as part of the downside economic risks.

Central bank action continues to drive price action across asset markets, according to currency analysts at Barclays. Data surprises have started to swing back toward creating a dollar-supporting environment, they say in a recent report.

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