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Dollar regains balance after steep fall

The yen briefly rose after the Chinese central bank reaffirmed its commitment to deepen foreign exchange reform and boost the flexibility of its currency.

The yen is commonly traded as a proxy for the Chinese yuan and investors reckon greater flexibility in China’s currency regime could lead to other countries in Asia -- including Japan -- allowing greater foreign exchange moves.

“The market hasn’t got the momentum to whack the dollar further at the moment. The China news is significant but its impact will be felt in the longer term,” said Tony Norfield, head of foreign exchange research at ABN AMRO.

In its monetary policy report for the first quarter of this year, the People’s Bank of China said it would press ahead with making the yuan fully convertible.

The dollar posted its biggest one-day loss against a basket of currencies since early January on Tuesday as U.S. President George W. Bush named Goldman Sachs Chairman Paulson to succeed John Snow as treasury secretary.

By 1000 GMT the dollar was little changed from the U.S. close at 112.03 yen after falling as low as 111.46 on the China news. The euro was 0.15 per cent lower at 144.15 yen.

The dollar was also little changed against the euro at $1.2864. Technical analysts said a break above $1.29 could clear the way for a return to one-year highs of around $1.2970 hit in mid-May.

On the back of a broad move lower in the U.S. currency, the Canadian dollar hit a 28-year high against the greenback at C$1.0932.

Fed minutes ahead

The next focus for the market is the Chicago PMI for May, a measure of business activity in the U.S. Midwest, due at 1400 GMT, followed by minutes from the Federal Reserve’s May meeting at 1800 GMT. They will be scrutinised for clues on whether the Fed is going to hike rates to 5.25 per cent in June or stay pat.

Many investors say the Fed, which has raised rates at 16 straight policy meetings since mid-2004 to 5 per cent, is in a difficult position, as it needs to weigh the potential for higher inflation and concerns about a slowdown in the housing sector.

“The minutes should shed light on whether the Fed will pause. The market view on this is still quite mixed and could swing either way,” said Norfield at ABN AMRO.

The euro held steady after data showed euro zone inflation at 2.5 per cent in May, up from 2.4 per cent in April and above a forecast of 2.4 per cent.

The data is likely to support expectations of further interest rate rises in the euro zone this year.

Traders said the dollar would remain vulnerable to the perception -- forged after the Group of Seven finance ministers met last month -- that Washington wants to see the dollar gradually fall to reduce the huge U.S. current account deficit.

Although current Treasury chief Snow has repeatedly said he supports a strong dollar, his remarks have fallen on deaf ears as many in the market suspect he favours a weaker currency to support U.S. export industries.

”The market is thinking that Paulson may not really fight the declining dollar, so that’s putting the dollar under pressure. And China adds to the sentiment which is starting to be a little bit dollar-bearish,” said Antje Praefcke, currency strategist at Commerzbank Corporates and Markets in Frankfurt.