The mystery of the almighty American dollar

Tiger Woods on a bad day is still a great draw, and the same might be said for the almighty American dollar. The US economy is scoring badly at present, but it is still the most attractive player in the world money markets.

That sums up the explanations given by a number of currency dealers on both sides of the Atlantic, when asked yesterday to explain the mystery of the dollar's strength against the euro and other world currencies at a time when US interest rates, manufacturing production, overall growth and stocks are all down.

"The US dollar is a safe haven," said one dealer. "There's no alternative. Nobody wants to look at the yen because the Japanese economy is at zero. In Europe there is a definite slowdown and everybody is waiting for the European Central Bank [ECB] to cut interest rates." All agreed with the explanation underlying the comment in the Wall Street Journal yesterday that "if the US economy has a black eye, you should see the other guy". A year ago when the US economy was performing spectacularly, the dollar was worth less than #1, and only slightly more than 100 yen. Now the euro is hovering around 90 cents and a dollar buys about 125 yen. The dollar has hit record highs against the Australian and Canadian dollars.

So who is buying US dollars? "Lots of Europeans are still investing heavily in US shares," said one European dealer. "It's part of their diversification. If the US economy makes a v-shaped recovery, it's the place to be."

Another suggestion is that major black economy operators in Europe, in Germany in particular, will be reluctant to reveal their cash holdings when the time comes to change national currencies into euro notes next year, and are therefore quietly converting their European currencies into dollars.

Confusion about the monetary strategy of the ECB is also a factor. An interest rate cut of at least a quarter point is anticipated when the ECB meets tomorrow, which could weaken the euro further, although investors are taking nothing for granted.

"Ninety-nine per cent thought there would be a rate cut at the last meeting, especially as ECB officials were saying that inflation was not a problem," said one dealer. "The only question was how much. There was no cut and people are asking - `do these guys know what they are doing?' But a rate cut will come. A reduction of 50-75 per cent has already been factored in by the market."

Many of the reasons for the rising dollar are temporary, and most analysts believe the euro will strengthen against the dollar before the end of the year.

The dollar has not been adversely affected by the prospect - strengthened by the loss of 86,000 jobs last month -- of another short-term interest rate cut by the US Federal Reserve before its next meeting on May 15th. In fact, said one dealer: "If the Fed goes again, the markets will expect the American economy to emerge in better shape."

"We are on the edge, it could go either way," said Mr Robert McTeer, president of the Dallas Federal Bank, yesterday, referring to the prospect of a US recession and an emergency rate cut before that date.