Emergency Fed Rate Cut Bruises Dollar vs Euro

The dollar tumbled against the euro Tuesday after the Federal Reserve unexpectedly slashed its benchmark overnight lending rate in an attempt to allay market fears of a U.S. recession.

Dollar and Euro
Dollar and Euro

The Fed's emergency move to cut rates by three quarters of a percentage point was precipitated by a global equities market rout and wiped out the dollar's yield advantage over the euro.

The federal funds rate target is now at 3.5 percent, while official euro zone interest rates are at 4 percent.

The cut, which preceded next week's Federal Open Market Committee monetary policy meeting, was not enough to prevent U.S. stocks from falling sharply when the market reopened after Monday's public holiday.

"Under any other Fed this would not be a surprise, but this Fed has been reluctant to cater to market expectations," said Mark Meadows, currency strategist at Tempus Consulting in Washington.

"This should support the euro in the short term, however our long-standing view is still that the U.S. economy will rebound and help the dollar gain into the middle of this year."

In New York morning trade, the euro was up on the day at $1.4622 after briefly racing to $1.4634. The euro has rebounded from a one-month low against the dollar of around $1.4366, according to Reuters data.

Against the Swiss franc the dollar was down. The dollar was thumped against the high-yielding Australian and New Zealand dollars. It last traded down 0.9 percent at US$0.8699 and dived 2.2 percent at US$0.7635.

The dollar, however, fared better against the yen, with analysts citing repatriation flows on the back of collapsing equity prices. The dollar touched its lowest in more than two and a half years against the yen.

"The key story today will be the equity markets, how they close. The critical issue in the forex market is the further unwinding of risk," said Boris Schlossberg, senior currency analyst at DailyFX.com in New York.

"If the Dow Jones collapses today, the dollar paradoxically will strengthen because the carry trades will be unwound. The dollar is a beneficiary of risk aversion."

Analysts were skeptical the Fed's surprise rate cut would ease fears of recession and said it pointed to panic by monetary authorities.

"Lower interest rates do little to address underlying weakness in the U.S. housing sector and broader economy. We would not be surprised if it fostered concerns that conditions may actually be worse than many investors anticipated," said strategists at Citigroup in a note.