Dollar hits 20-year high ahead of Fed rate decision

The dollar hit a new 20-year high on Wednesday as investors braced themselves for a widely anticipated interest rate decision by the US Federal Reserve.

An index measuring the greenback against six peers rose almost 0.8 per cent to reach its highest level since 2002. The pound dropped 0.4 per cent to $1.133 and the euro lost 0.9 per cent to consolidate below parity at $0.988. An MSCI index of emerging market currencies slipped 0.3 per cent.

Those moves came ahead of the conclusion of the latest meeting of the US central bank on Wednesday, where rate-setters are expected to raise borrowing costs by 0.75 percentage points — marking the third consecutive increase of such magnitude. The Fed’s current target range stands at 2.25 to 2.5 per cent.

“Front and centre is the Fed,” said Stephen Gallo, European head of foreign exchange strategy at BMO Capital Markets. The dollar’s continued strength, he said, means the US currency “is incrementally becoming more problematic for the world economy” as it puts pressure on emerging market issuers of foreign currency debt and commodity exporters.

The situation for dollar-denominated issuers “is heading worse”.

The dollar’s ascent on Wednesday also followed an address by Russian president Vladimir Putin, in which he said that the country’s armed forces would call up reservists immediately to support the invasion of Ukraine. The US currency is widely perceived as a haven currency during times of geopolitical tension and economic stress.

Line chart of Dollar index showing US dollar rips higher

Victoria Scholar, head of investment at the fund supermarket Interactive Investor, said that a combination of haven demand and the Fed’s expected rate rise were driving demand for the dollar against most major currencies.

“The dollar is rallying more aggressively against the euro than the pound given that the Bank of England on Thursday is expected to follow the Fed with a similarly hawkish rate increase. The interest rate differential allure of the dollar post the Fed is only likely to last one day against the pound if we see a similar [0.75 percentage point] hike from the Bank of England.”

Wall Street’s S&P 500 share gauge was up 0.6 per cent by the late morning in New York, after closing the previous session 1.1 per cent lower. The Nasdaq Composite rose 0.5 per cent. In Europe, the regional Stoxx 600 rose 0.9 per cent and London’s FTSE 100 rose 0.6 per cent.

Earlier in the day, Hong Kong’s Hang Seng index slid 1.8 per cent and China’s mainland CSI 300 fell 0.7 per cent. Japan’s Topix lost 1.4 per cent.

In government debt markets, the two-year US Treasury yield added 0.04 percentage points to hit 4 per cent for the first time since 2007, extending gains from the previous session. Bond yields rise as their prices fall. The yield on the 10-year Treasury note was steady at 3.56 per cent, around an 11-year high.

Along with the Fed’s monetary policy decision, investors will pay close attention to officials’ updated forecasts for interest rates — known as the “dot plot”. The new set of projections, the first since June, will include officials’ estimates for inflation, unemployment and growth.

John Velis, foreign exchange strategist for the Americas at BNY Mellon, said he anticipated the Fed would raise interest rates as high as 5 per cent early next year, above the 4 per cent peak currently priced in by market.

The Fed’s new forecasts would probably imply “a sustained period of high interest rates” instead of a quick “pivot” to monetary easing early next year, said Velis.


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