By Deborah Levine and Barbara Kollmeyer, MarketWatch
NEW YORK (MarketWatch) — The U.S. dollar drifted in a tight range on Wednesday, as expectations about what form of easier policy the Federal Reserve unveils cover a broad range of options, with various impacts on the currency.
News out of Europe was tame, though Greek leaders are expected to announce as soon as today that a new government has been formed.
The euro EURUSD +0.09% gave up gains to trade little changed from $1.2698 on Tuesday.
The dollar index DXY -0.03% , which measures the dollar against a basket of six currencies, traded at 81.422 from 81.365 in late North American trading Tuesday.
“Currencies are consolidating in anticipation of the Federal Reserve’s monetary policy announcement,” said Kathy Lien, managing director of FX strategy at BK Asset Management. “It all boils down to whether the central bank increases or signals plans to increase their balance sheet.”
The Fed Open Market Committee will end its two-day meeting and release a statement at 12:30 p.m. Eastern time After that, officials will release revised forecasts and then Fed Chairman Ben Bernanke will hold a press conference beginning at 2:15 p.m.
The most common outlook is that the central bank will extend its Operation Twist Treasury-buying program, which is due to expire at the end of this month. See more on Fed options, Treasury bonds.
“If this is all it says, the dollar will probably rally a bit before Bernanke takes the stand,” Lien said. “If the Fed also diverts some of those funds to mortgages, gains in the dollar could be capped.
However, the impact may be more muted because everyone knows the Fed’s options are dwindling and “in a relative sense, other major central banks are largely going along the same road, albeit with slightly different route maps,” said Simon Smith, head of research at FxPro,
The most dollar-negative outcome would be if the Fed expands its balance sheet by purchasing more bonds, which is seen as akin to printing money.
The Fed could also opt to just change language in its policy statement about its willingness to act later if conditions deteriorate.
“No extension [of Twist] could see the dollar higher, but, given the extent of long dollar positions at present, the risk is that any dollar rallies are sold,” Smith said.
Jane Foley, senior currency strategist at Rabobank International, said markets could be disappointed by a lack of aggressive action from the Fed.
“Insofar as it could even be argued that the relative stability in the markets since the middle of last week limits the need for central banks to take action urgently, the fundamentals could be suggesting that there is good reason for the U.S. dollar to strengthen over the coming sessions,” she said in emailed comments.
Meanwhile in Europe
“However, the market is still buoyed by hope of better news from the euro zone this week, and this suggests that EUR/USD will continue to run into good support,” Foley said.
On Tuesday, the single European currency popped above $1.27, its best level in almost a month, as bond yields in Spain and other so-called peripheral countries eased on reports that Germany would approve a plan to have the euro-zone bailout fund buy the sovereign debt of troubled member nations.
German officials denied the report, but the yield on Spain’s 10-year government bond ES:10YR_ESP -4.04% remained under the psychologically important 7% level, moving down 3 basis points to 6.94%.
The Group of 20 meeting concluded Tuesday with Europe asked to “break the feedback loop” between weak banks and weak sovereigns. Germany was in the spotlight with reports of pressure from other members on German Chancellor Angela Merkel to hold the union together.
“The G20 summit was another small step in the right direction but that a lot of details are still missing to feel confident that the rebound in the euro-dollar could be extended beyond its recent highs,” said strategists at Citi. “We remain concerned that the Eurogroup meeting tomorrow and the European Union summit next week will not provide the bold and decisive response to the crisis that investors are hoping for.”
Against the Japanese yen USDJPY +0.75% , the dollar rose to ÂĄ79.57, compared to ÂĄ79.06 late the previous day.
The British pound GBPUSD +0.10% traded at $1.5747, little changed from $1.5740 Tuesday.
Deborah Levine is a MarketWatch reporter, based in New York.
Barbara Kollmeyer is an editor for MarketWatch in Madrid.
