What is the 2006 forecast for the Dollar?
"The unexpected strength of the US dollar was one of the biggest surprises in the financial markets in 2005, with the greenback enjoying its best year against the euro and yen since 1999 and 1979 respectively.
However, if the majority of analysts are to be believed, the gains will prove little more than a blip in the dollar’s decline, with the downtrend seen during 2002-2004 likely to be resumed in 2006.
Consensus forecasts collated by Reuters suggest that the dollar is likely to end 2006 languishing at $1.27 to the euro, a fall of 6.7 per cent, and Y108 versus the yen, a putative fall of 9.1 per cent.
The consensus view is that the greenback might be able to hold steady for the first quarter of the year, but after that the sell-off will resume.
The market’s rationale is straightforward, with two of the important factors that conspired to allow the dollar to chalk up 2005’s unexpected gains likely to melt away.
The Homeland Investment Act, a one-year tax break designed to encourage US multinationals to repatriate overseas holdings, has already expired for most companies, and will run out for the minority of businesses with a March year-end in three months’ time.
More important, interest rate differentials may soon cease to move in the dollar’s favour. The Federal Reserve raised rates eight times in 2005 to 4.25 per cent. Japan and the eurozone managed only one rise between them.
The rate differentials may yet widen a fraction more, with the Fed seen ushering in another couple of rises while Europe moves more circumspectly and Japan remains engulfed in a political row about the mere possibility of ending its policy of quantitative monetary easing, a precursor to scrapping its zero interest rate policy.
But by spring the rate differential in favour of the US – against countries such as Switzerland, Sweden and Norway, as well as Japan and the eurozone – may well be at its peak, signalling the zenith for the dollar if rate differentials remain king.
In this environment, the currency market might start thrashing around for a fresh theme. Many analysts expect this theme to be renewed worries about the US trade deficit, which appeared to be stabilising for much of 2005 only to balloon to a record high of $68.9bn in October."