Uncertainty over a $1.5 trillion government plan to rescue U.S. banks ensured further gains by the Japanese yen Wednesday while the dollar gave back some of its recent gains.
The yen and dollar both posted strong gains Tuesday after U.S. Treasury Secretary Tim Geithner unveiled the long-awaited bank rescue plan. Traders said a lack of details spurred safe-haven flows into both currencies as equity markets sank.
Foreign exchange "has responded in its standard fashion to the rise in risk aversion," wrote strategists at Bank of Scotland Wednesday morning. "The U.S. dollar and defensive currencies (Japanese yen) have outperformed [while] emerging-market currencies and growth-sensitive currencies have underperformed."
The dollar index , which measures the U.S. unit against a trade-weighted basket of six major currencies, traded at 85.512, down slightly from 85.790 in North American trade late Tuesday.
Under the plan unveiled by U.S. Treasury Secretary Tim Geithner on Tuesday, the U.S. government will use mostly private money to create a fund of at least $500 billion to recapitalize banks and another fund of $1 trillion to support consumer and business lending. See full story on rescue plan.
Also Tuesday, members of the U.S. Senate voted to approve a massive economic-stimulus bill on Tuesday, handing President Barack Obama an important legislative victory that he says would save or create as many as 4 million jobs. The measure must now be reconciled with a House version before being sent to the White House for the president's signature. See full story on Senate's approval of stimulus bill.
But the plans didn't give investors the reassurance for which many had hoped. The dollar and yen both rallied Wednesday as U.S. equities tumbled and U.S. government bonds rallied.
The dollar's gains maintained a recent pattern. The U.S. currency and the Japanese yen have tended to rise after downbeat news, as lower-yielding currencies tend to benefit from risk aversion. The dollar and yen have tended to decline whenever there is more willingness among investors to buy riskier, higher-yielding assets.
The euro edged up to $1.2945 versus the dollar from $1.2867 late Tuesday. The single currency fell 0.4% against the Japanese yen to 116.25 yen.
The Swedish krona fell 1.6% versus the euro after Sweden's Riksbank slashed its repo rate by more than expected from 2% to 1%. Expectations were for a cut of a half-point to three-quarters of a point, according to surveys of economists.
The krona traded at 10.8013 to the euro in recent trade.
The central bank said further slight cuts in the key lending rate might be necessary to keep inflation near its target of 2% amid falling employment and output.
The Riksbank now expects 2009 gross domestic product to contract by 1.6%, compared to its previous forecast of a 0.5% fall. It expects the economy to rebound by 1.7% in 2010.
"The upshot is that the bank now expects to cut rates once more to 0.75% this year and for rates to remain unchanged until early 2011," said Ben May, European economist at Capital Economics.
The Riksbank's economic forecasts still look too optimistic, he said, and official rates could fall to around zero later this year.
The dollar slipped against its Japanese counterpart, to 89.96 yen from 90.17 yen.
The British pound slipped to $1.4365 versus the dollar, down from $1.4482 after the Bank of England's latest quarterly inflation report warned that inflation was likely to fall "well below" the central bank's 2% medium-term target in coming months.
The BOE said it was prepared to begin buying assets later this week in an effort to boost corporate credit and would also consider taking actions designed to increase the money supply in an effort to boost nominal spending.
The projections "imply that further easing in monetary policy may well be required. That is likely to include actions aimed at increasing the supply of money in order to stimulate nominal spending," said Bank of England Governor Mervyn King at a news conference.
"So let me assure you that, with the full range of instruments at its disposal, the Monetary Policy Committee can and will take action to return inflation to the target and so ensure that economic growth will again match its potential," he said.
Sterling dropped to $1.4482, down from $1.4889 late Monday, and from a Tuesday session high of $1.4893.
Traders await the release of the Bank of England's Quarterly Inflation Report Wednesday, which could be the next pivotal point for sterling.
Last Thursday, the Bank of England cut its official bank rate to 1% from 1.5%, setting another all-time low for the benchmark.
