As the economic picture in Europe darkens, the U.S. dollar is proving to be the main beneficiary.
Early Tuesday, a surprisingly weak reading on a key measure of business confidence in Germany sent the euro skidding to a six-month low against the dollar. The British pound, meanwhile, dropped to its weakest point against the dollar in two years.
The euro and the pound recovered slightly later in the day. But analysts say the path ahead is likely down as investors adjust to a world where major economies outside the U.S. experience a sharper-than-expected slowdown and might even tip into recession.
That shift has been a boon to the dollar, which has gained about 8% vs. the euro, 9% vs. the pound and 5% vs. the Japanese yen since mid-July. Late Tuesday in New York, one euro fetched $1.4645 and one pound bought $1.8386. The dollar traded at 109.64 yen.
In the U.K., falling housing prices, high levels of borrowing and a troubled financial sector mirror many of the ills currently plaguing the U.S. But the pound had fared relatively well up until now: It touched a 26-year high against the dollar late last year, and as recently as last month, one pound still bought $2.
That high level left the British currency intensely vulnerable to a reversal. The pound is 'the world's great whipping boy at the moment,' says Mark Farrington, head of currency at Principal Global Investors in London. To put it another way, the pound is taking on a role formerly occupied by the dollar.
Figures released last week showed that the U.K. economy, Europe's second largest, stagnated in the second quarter, ending 15 years of economic expansion. Analysts at French bank Societe Generale said Tuesday they expect Britain to suffer a mild recession starting this quarter.
The British Bankers' Association reported the number of mortgage approvals for house purchases in July remained low, and down 65% from a year earlier.
The downbeat data out of Germany, the largest economy in the euro zone, further stoked fears that the prime engine of the region's growth could be sliding toward recession, as well.
A much-watched index of business confidence from Germany's Ifo Institute dropped to a three-year low. The government confirmed the German economy contracted in the second quarter compared with a year earlier.
As the gloom deepens, investors are starting to build in expectations that the Bank of England and the European Central Bank will be forced to cut interest rates to revive growth. David Powell, a currency strategist at Bank of America in London, says his firm expects the Bank of England to lower its key interest rate by a hefty 1.5 percentage points, to 3.5%, by the end of 2009.
The ECB raised its key interest rate to 4.25% in June in the face of rising inflation, but some investors believe the bank could start cutting rates early next year as growth continues to deteriorate and inflation starts to moderate.
In the U.S., by contrast, 'rates may not go up much or fast, but they're going up . . . [and] that sets an entirely different backdrop to what we've had,' says Adnan Akant, a currency specialist at money manager Fischer Francis Trees & Watts.
The dollar spent much of this year getting punished for U.S. economic woes and the Federal Reserve's campaign to slice interest rates. Lower U.S. interest rates reduce the appeal of short-term investments in dollars.
One favorite way to express that pessimism was to sell the dollar against the euro. That helped send Europe's common currency to an all-time in July.
Joanna Slater / Neil Shah |
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