Dollar index has been treading water for months
Risks of euro slump on the rise again
Dollar seen weaker if speculation over QE3 rises again
LONDON (Dow Jones)--The latest chapter of the euro zone debt crisis will doubtlessly knock the euro lower, but the single currency's decline will probably prove more gentle than expected.
And that is all because of the dollar.
The U.S. currency may be getting lots of support from the recent fears over global growth and the decline in crude oil, copper and even gold prices, but with U.S. Treasury yields at three-month lows and with disappointing U.S. data suggesting that the Federal Reserve may still have to resort to more quantitative easing, international investors are hardly likely to sell the euro too heavily against the dollar.
The performance of the dollar's trade-weighted index over the past few months gives a clue to just how limited investor support has been.
After spending the past four months of 2011 climbing from a low of about 73.50 to a high of over 81.50, the index has since spent most of 2012 in a range between about 78.00 and 80.50.
Even over the past few days, as concerns over the future of the euro zone have increased following Greek and French elections that reflected a growing weariness with austerity measures, the dollar has failed to make any marked gains.
France's president-elect, Socialist Francois Hollande has pledged to renegotiate the EU's fiscal treaty agreed by his predecessor, Nicolas Sarkozy, in order to make it more growth-friendly, which could pit him against the pro-austerity stance of German Chancellor Angela Merkel and could leave Berlin isolated.
Elections in Greece have left the country at a political impasse--the two pro-austerity parties failed to garner sufficient support to form a majority and wrangling continues between the other parties--prompting market analysts to speculate over the probability of a Greek exit from the euro.
The specter of a new global financial crisis, sparked by such an event, has prompted an immediate pullback from risk.
But the decline in the euro against the dollar still hasn't been that spectacular. The euro has spent this week drifting gradually under $1.30, just below levels it hit only a month ago.
One of the reasons that the single currency hasn't staged a collapse is that, despite all the speculation, investors aren't pulling out of Germany.
This could, of course, all change if worries over the euro zone increase. And with the recovery in the U.S. faltering and with the latest employment data suggesting that the economy may still need further stimulus, financial markets are still looking to the Fed for guidance.
So far, Federal Reserve Chairman Ben Bernanke has left the option of further monetary easing on the table but studiously avoided suggesting that he will actually use it. But if recent data push him closer to doing so and if U.S. Treasury yields decline any more, the dollar is likely to become less attractive.
For the euro, facing the possibility of a sharp sell off, this can only be good news.
Bloomberg TNI FRX POV
Reuters USD/DJ
Thomson P/1066 or P/1074
(Nicholas Hastings is a Senior Correspondent in London for Dow Jones Newswires who has written about foreign exchange for more than 20 years. He previously covered a variety of markets, including equities, fixed income, commodities and energy. He can be contacted on +44-20-7842-9493 or by email: nick.hastings@dowjones.com or on twitter @NickHastingsDJ)
Write to Nicholas Hastings at nick.hastings@dowjones.com
