Dollar Rises on Speculation Europe May Slow Faster Than U.S.

By Ron Harui and Stanley White

Sept. 11 (Bloomberg) -- The dollar rose to a one-year high against the euro on speculation that growth in Europe will slow more than in the U.S., prompting the region's central bank to cut interest rates.

The U.S. currency climbed for a second day as traders increased bets on a European Central Bank rate reduction before a government report tomorrow that economists say will show industrial production in the euro area shrank. New Zealand's dollar dropped to its lowest level since October 2006 after Alan Bollard, governor of the nation's central bank, lowered borrowing costs by more than economists expected.

``The overall drivers of the foreign-exchange markets are positive for the U.S. dollar,'' said Sue Trinh, a currency strategist at RBC Capital Markets in Sydney. ``Markets have been driven by a narrowing in the expectations of the growth differential between the U.S. and the rest of the world.''

The U.S. currency climbed to $1.3933 per euro, the strongest since Sept. 18, 2007, before trading at $1.3965 as of 7:25 a.m. in London from $1.3998 late yesterday in New York. The dollar will strengthen to $1.3830 per euro in coming weeks, Trinh said. Japan's currency advanced to 149.87 per euro, the highest since Aug. 17, 2007, and was last at 150.07 from 150.75. It also gained to 107.45 per dollar from 107.70.

The New Zealand dollar declined to as low as 64.95 U.S. cents before trading at 65.11 cents, down 2.5 percent from late Asian trading yesterday. The Reserve Bank of New Zealand cut its benchmark interest rate by half a percentage point to 7.5 percent, saying the economy is in a recession.

Risk Aversion

The ICE's Dollar Index touched 80.25 today, the highest since September 2007, when the U.S. central bank began cutting the target rate for overnight lending between banks from 5.25 percent to 2 percent to avoid a recession. The index, a gauge measuring the dollar against the currencies of six U.S. trading partners, reached a low of 70.698 on March 17.

The European Commission said yesterday the euro region's economy will probably stagnate this quarter after shrinking the previous three months for the first time since the currency's debut in 1999. It cut its 2008 growth forecast to 1.3 percent, from 1.7 percent. By contrast, the median in a Bloomberg News survey of 84 economists was for U.S. growth of 1.7 percent.

Volatility Rises

The yen rose against 15 of the 16 most-active currencies on speculation that widening subprime-mortgage losses will hurt earnings of U.S. companies, reducing demand for so-called carry trades.

In carry trades, investors get funds in a country with low borrowing costs and buy assets where returns are higher. Japan's target lending rate is 0.5 percent, compared with 7 percent in Australia. The risk is that currency swings erase profits.

``Investors in Japan are in risk-aversion mode, so they're buying the yen,'' said Ryohei Muramatsu, manager of Group Treasury Asia in Tokyo at Commerzbank AG. ``The economy also is doing poorly'' so the yen may appreciate to 107.00 against the dollar today.

The currency gained for a fourth day against the euro after implied volatility on one-month euro options versus the yen rose to 16.94 percent yesterday, the highest since March 18. It was at 16.65 percent today.

The yen held gains after a government report showed Japanese machinery orders fell for a second month in July, signaling manufacturers expect the global slowdown to crimp demand into next year.

The European Union's statistics office in Luxembourg will probably say tomorrow that industrial output in the 15 nations fell 0.2 percent in July after a revised 0.2 percent decline in June, according to a Bloomberg News survey of economists.

Growth Outlook

``The euro is likely to extend its adjustment lower,'' said Saburo Matsumoto, senior manager of foreign-exchange sales in Tokyo at Sumitomo Trust & Banking Co., Japan's fifth-largest publicly traded bank by market value. ``The euro-zone economy is facing a recession, so a weaker currency could provide some relief to exports.''

Europe's single currency may weaken to 147.50 yen in the next few days, Matsumoto forecast.

Traders are betting that the ECB will cut its 4.25 percent benchmark interest rate by 42 basis points over the next 12 months, up from 30 basis points a week earlier, according to a Credit Suisse Group index based on overnight swaps.

Implied volatility on the dollar versus the most actively traded currencies was at 11.55 percent after touching 12 percent, the highest since April, according to the JPMorgan Volatility index. The gauge of perceived price fluctuation in the dollar reached 9.27 percent on Aug. 4, the lowest this year.

To contact the reporter on this story: Ron Harui in Singapore at rharui@bloomberg.net; Stanley White in Tokyo at swhite28@bloomberg.net
Last Updated: September 11, 2008 02:40 EDT