Forex traders punished the U.S. Dollar on Thursday following the Fed's inability to complete its announced purchase of government assets. This action reversed the trend of the day which showed a strengthening Dollar after the S&P Corp. announced it had turned negative on the U.K. economy because of the size of its debt to GDP ratio.
By the end of the trading session, Dollar traders turned even more bearish as rumors circulated that U.S. debt was next in line for a downgrade. All of this news is helping to drive Treasury yields higher in front of next week's Treasury auction. Traders are now becoming concerned that the U.S. is going to have to pay more to borrow money to sustain its efforts to curtail the current economic recession. This is likely to slow down the process of getting the U.S. economy back on track.
The spiraling effect of rising interest rates is starting to bring up talk of inflation. This is fueling a strong rally in gold while punishing the Dollar. Speculators are betting that the Bernanke and the Fed will not be able to weasel out of this developing mess without triggering a spike in inflation.
The only way possible to keep interest rates low is to increase the frequency and the amount of government asset purchases. This is known as quantitative easing which is essentially the printing of money. If done correctly, it can create enough stimuli to pull an economy out of a slump, but if applied haphazardly can lead to runaway inflation.
Dollar bears are betting on the latter which means a weaker Dollar over the long-run. Based on yesterday's action, it does not seem to matter that the Bank of England is applying the same tactics to revive its economy. Since so much of the world€™s goods and services are Dollar-denominated, it is going to affect the U.S. Dollar the most.
Clearly it looks as if developing financial conditions are beginning to strip the U.S. Dollar of its safe haven status.
Inflationary news is usually bullish for commodities, which is evident in the rallies in gold and crude oil. Because of this, commodity-based currencies such as the Canadian Dollar, Australian Dollar and the New Zealand Dollar are expected to appreciate the most over the short-run.
This can trigger a multitude of problems for the Bank of Canada, the Reserve Bank of Australia and the Reserve Bank of New Zealand as rising currency prices may make their goods and services too expensive which will hurt export sales and damage a country's chances for economic recovery.
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