Markets: Dollar is ready to be quick off the mark

The US dollar has hit a speedbump after motoring ahead of the deutschmark for the past two and a half years, as the markets decided to take seriously the Bundesbank's threat to raise interest rates to bolster its currency.

But it is a speedbump rather than a roadblock, and investors are expecting the US currency rally that began in April 1995 to continue in the months ahead, putting the dollar on track to hit its highest level against the mark in 11 years.

The motor for the dollar's gains: evidence that growth in the world's largest economy is picking up steam, combined with concern that Europe's planned single currency, the euro, will be weaker than the mark.

The dollar has been on a roll since it dropped to a post-war low of 1.35 marks 30 months ago. After surging to an eight-year high of 1.8905 marks on 6 August, the dollar slipped as low as 1.7922 last week, trimming its gains against the German currency so far this year to about 15 per cent from 20 per cent. That's likely to prove a temporary pause, however.

"There had to be a consolidation in the dollar. The rally was too fast, too soon," said Thilo Steiger at AXA Fondsmanagement in Wiesbaden. "I don't think the dollar's rally has ended."

The dollar's gains have helped make US Treasuries one of the best-performing markets in the world this year, in dollar terms. Only some longer-term Canadian and Japanese bonds have done better.

A stronger dollar boosts the return on US securities for international investors, keeping foreign interest in the US stock market alive and helping to sustain Wall Street's climb.

"The potential is still there to go through 1.90 marks," said Keith Kelsall, manager at Fiduciary Trust International. "We're positioned toward a stronger dollar."

The dollar's climb has been broken in the past month by signs that the Bundesbank may be preparing the ground for its first increase in rates for five years. That, coupled with a slip in US stocks and bonds, prompted investors to pare their dollar holdings.

"A lot of investors have their pockets stuffed with dollars at the moment and want to get rid of them," said Andreas Rueger, a trader at Commerzbank. "However, the fundamentals still favour the dollar. I'm afraid we haven't seen the mark's absolute low yet."

Bundesbank president Hans Tietmeyer, breaking almost two months of silence last week, said he was "happier" with the mark's exchange rate now than he was earlier in the month. The German central bank has been alarmed by the speed with which its currency had lost ground against the dollar, though a weaker mark does help German exporters.

The dollar's gains were pared after a surge in German import prices in July to an eight-year high of 4.2 per cent, and bigger-than-expected gains in consumer prices in August, helped kindle concern over German rates.

Mr Tietmeyer, however, warned against "over-dramatising" the two price reports, pointing to a range of "special factors" that may not be repeated in the next few months.

He also denied a report by Deutsche Bank Research claiming the German central bank had sold as much as $2.8bn of its dollar reserves to prop up its flagging currency.

The Bundesbank first sparked rate-rise concerns a month ago, warning it was focusing on recent moves in the currency markets. With German economic growth lacklustre, however, economists reckon the central bank is loath to tighten monetary conditions.

At best, economists expect the German economy to have expanded by little more than 2 per cent in the second quarter. Figures last week, meanwhile, show that the US economy grew by 3.6 per cent in the same period - a revision of the government's initial 2.2 per cent growth estimate.

"The US economy continues to be strong while the conditions in Europe are very different," said Ulrich Hombrecher, chief economist at Westdeutsche Landesbank Girozentrale. "By the end of September, we could be looking at 1.85 marks to the dollar."

The key inspiration for investors to continue driving the dollar higher is likely to be concern that European politicians will keep plans to introduce a single currency in 1999 on track. To do that, they will probably abandon the strict economic entry criteria which even Germany and France are struggling to meet. Keeping budget deficits at 3 per cent or less of gross domestic product is proving difficult even for Europe's strongest economies.

And as the entry rules get relaxed, countries that have typically had weaker economies are likely to be founder members of the new currency, undermining its value.

"Mark weakness is all down to the euro. Everything is now pointing to a weaker euro," said Mr Kelsall of Fiduciary. "There is a high probability Spain will be in there, and Italy is not so much a question mark right now. All this does still point to a much weaker mark against the dollar."

Investors said these concerns about the value of the euro made a move to 2.00 marks per dollar - a level not seen since December 1986 - increasingly likely in the months ahead. "In the short term, we should see an exchange rate around the 2-mark level, whether it's 1.95 or 2.05," said Mr Steiger at AXA.

Copyright: IOS & Bloomberg

Start your day with The Independent, sign up for daily news emails
ebooksAn introduction to the ground rules of British democracy
Latest stories from i100
Have you tried new the Independent Digital Edition apps?
Independent Dating

By clicking 'Search' you
are agreeing to our
Terms of Use.

iJobs Job Widget
iJobs Money & Business

Recruitment Genius: Collections Agent

£14000 - £16000 per annum: Recruitment Genius: This company was established in...

SThree: Trainee Recruitment Consultant

£20000 - £25000 per annum + OTE 40k: SThree: SThree are a global FTSE 250 busi...

SThree: Trainee Recruitment Consultant

£20000 - £25000 per annum + competitive: SThree: SThree are a global FTSE 250 ...

Reach Volunteering: Trustees with Finance, Fundraising and IT skills

Voluntary and unpaid, reasonable expenses reimbursable: Reach Volunteering: St...

Day In a Page

Isis profits from destruction of antiquities by selling relics to dealers - and then blowing up the buildings they come from to conceal the evidence of looting

How Isis profits from destruction of antiquities

Robert Fisk on the terrorist group's manipulation of the market to increase the price of artefacts
Labour leadership: Andy Burnham urges Jeremy Corbyn voters to think again in last-minute plea

'If we lose touch we’ll end up with two decades of the Tories'

In an exclusive interview, Andy Burnham urges Jeremy Corbyn voters to think again in last-minute plea
Tunisia fears its Arab Spring could be reversed as the new regime becomes as intolerant of dissent as its predecessor

The Arab Spring reversed

Tunisian protesters fear that a new law will whitewash corrupt businessmen and officials, but they are finding that the new regime is becoming as intolerant of dissent as its predecessor
King Arthur: Legendary figure was real and lived most of his life in Strathclyde, academic claims

Academic claims King Arthur was real - and reveals where he lived

Dr Andrew Breeze says the legendary figure did exist – but was a general, not a king
Who is Oliver Bonas and how has he captured middle-class hearts?

Who is Oliver Bonas?

It's the first high-street store to pay its staff the living wage, and it saw out the recession in style
Earth has 'lost more than half its trees' since humans first started cutting them down

Axe-wielding Man fells half the world’s trees – leaving us just 422 each

However, the number of trees may be eight times higher than previously thought
60 years of Scalextric: Model cars are now stuffed with as much tech as real ones

60 years of Scalextric

Model cars are now stuffed with as much tech as real ones
Theme parks continue to draw in thrill-seekers despite the risks - so why are we so addicted?

Why are we addicted to theme parks?

Now that Banksy has unveiled his own dystopian version, Christopher Beanland considers the ups and downs of our endless quest for amusement
Tourism in Iran: The country will soon be opening up again after years of isolation

Iran is opening up again to tourists

After years of isolation, Iran is reopening its embassies abroad. Soon, there'll be the chance for the adventurous to holiday there
10 best PS4 games

10 best PS4 games

Can’t wait for the new round of blockbusters due out this autumn? We played through last year’s offering
Transfer window: Ten things we learnt

Ten things we learnt from the transfer window

Record-breaking spending shows FFP restraint no longer applies
Migrant crisis: UN official Philippe Douste-Blazy reveals the harrowing sights he encountered among refugees arriving on Lampedusa

‘Can we really just turn away?’

Dead bodies, men drowning, women miscarrying – a senior UN figure on the horrors he has witnessed among migrants arriving on Lampedusa, and urges politicians not to underestimate our caring nature
Nine of Syria and Iraq's 10 world heritage sites are in danger as Isis ravages centuries of history

Nine of Syria and Iraq's 10 world heritage sites are in danger...

... and not just because of Isis vandalism
Girl on a Plane: An exclusive extract of the novelisation inspired by the 1970 Palestinian fighters hijack

Girl on a Plane

An exclusive extract of the novelisation inspired by the 1970 Palestinian fighters hijack
Why Frederick Forsyth's spying days could spell disaster for today's journalists

Why Frederick Forsyth's spying days could spell disaster for today's journalists

The author of 'The Day of the Jackal' has revealed he spied for MI6 while a foreign correspondent