Euro moves higher

The dollar fell against the euro on speculation that the Federal Reserve may cut interest rates again this year to prevent a weak housing sector from damaging the broader economy.

Comments by former Fed Chairman Alan Greenspan and by San Francisco Fed President Janet Yellen heightened concerns about the economy, adding to fears that signs of slower growth would lead to lower rates. Policy makers slashed the benchmark lending rate by 50 basis points to 4.75 percent last month.

The dollar has been undermined by the prospect of further rate cuts, and the currency has been unable to capitalize on last week’s solid jobs report and rising bond yields, remaining near an all-time low against the euro.

Although minutes from the Fed’s September meeting released on Tuesday revealed little inclination by the central bank to cut again this month, December rate futures assess a roughly 76 percent chance of a 25 basis point rate cut that month, according to Reuters.

EUR/USD is likely to rally although US rate cut expectations have flattened over recent weeks due to rallying stocks, declining risk spreads and relatively firm US labour market data.

However, analysts at BNP Paribas view the prospect of seeing the FED cutting twice this year as they expect housing market weakness to filter through into other areas of the economy.

The US sub prime housing crisis will not peak until 2009, rating agency Standard and Poor’s said on Tuesday, adding it had underestimated the extent of fraud in the industry. Meanwhile, Thornburg Mortgage Inc, a jumbo-mortgage lender hurt by the credit crisis, boosted its estimated loss from asset sales on Tuesday; the latest sign that the crippled US mortgage market is far from healed. There will be no important US data releases until Friday when September retail sales and the October UoM consumer climate will be released. This data should show that the recessionary US housing market does matter for US consumption. US rate expectations should soon ease again putting the USD under renewed pressure.

The break above $1.4155 – a triple top last week and early this week – has opened the way for a test of the previous all-time high of $1.4285, above which the coast will be clear for an assault on 1.4370 target.

The euro also appears to be well supported against the yen as risk appetite stays positive. In Japan, the BoJ kept rates unchanged at 0.5%, in line with expectations. Mizuno was the sole dissenter, once again, voting for a rate hike. But given the period of financial stability, there is little reason for investors to choose the JPY over other high yielding currencies. With this in mind, near term support should continue for the pair.

In the case of the ECB, officials have maintained their hawkish commentary over the past couple of days with Trichet’s comments to the EU Parliament suggesting that risks to inflation are to the upside and a 2%-plus rate will persist nearterm, with an average of around 2% still expected in 2008. ECB’s Garganas went even further, saying that inflation could come in above projections in 2008. The German DIHK survey of business expectations came in weaker than expected, with expectations falling

to +15 in September from +24. in May. DIHK said that the upswing will continue into next year, but with reduced speed.