Fiscal Cliff and the US Dollar.

Mon Dec 24, 2012 2:12pm EST

US fiscal cliff talks impasse could support dollar to year-end

    * Volatility may increase as year-end deadline approaches
    * Yen falls to 20-month low versus dollar on Abe comments

    NEW YORK, Dec 24 (Reuters) – The dollar rose against major
currencies on Monday, buoyed by uncertainty about U.S. budget
talks, while the yen tumbled to a 20-month low after Japan’s
incoming prime minister stepped up pressure on the Bank of Japan
to easy monetary policy.

    Volatility could increase as the year-end deadline on the
U.S. “fiscal cliff” approaches with little progress on reaching
a deal to avoid $600 billion in tax hikes and spending cuts that
could tip the U.S. economy back into recession.

   A deal in the coming days could spark a rally in currencies
like the euro, the Australian and Canadian dollars as investor
appetite for risk increases, while no deal may spur demand for
the safe-haven U.S. dollar and Japanese yen, analysts said.
    “The end of the week therefore sets up as possible
volatility event for the market with some analysts expecting a 1
percent rally for risk FX if a deal looks to be done, but a
possible severe sell off of 2 percent or more if it fails to
materialize,” said Boris Schlossberg, managing director of FX
strategy at BK Asset Management in New York.

    “The risks are skewed to the downside as market remains
complacent about a compromise, but for now traders are betting
that a deal gets done.”

    Many investors opted to stay on the sidelines in thin
pre-holiday trading on Monday, awaiting headlines from
Washington.

    The Democratic president and Republican House of
Representatives Speaker John Boehner, the two key negotiators,
are not talking and are out of town for the Christmas holidays.
Congress is in recess, and will have only a few days next week
to act before Jan. 1. Some lawmakers voiced concern that the
country would go over the “fiscal cliff”.
    The dollar index, which tracks the greenback versus a
basket of six currencies, was up slightly at 79.655.
    The dollar rallied 0.7 percent to 84.82 yen, having
risen as high as 84.87 yen, according to Reuters data, the best
level since April 2011. Chartists said the dollar must overcome
85.05 yen, its 200-week moving average, to sustain further
gains.
    Shinzo Abe, who is set to become prime minister on
Wednesday, renewed pressure on the BOJ to adopt a higher
inflation target. Abe said he would try to revise a law
guaranteeing the BoJ’s independence if his demand for a binding
2 percent inflation target – double its current goal – is not
met.
    He also said he will pick someone who agrees with his views
on the need for bolder monetary easing to succeed BOJ Governor
Masaaki Shirakawa when his term expires in April next year.
    “The market is really saying they are convinced on yen
weakness and that is what we are going to see for the remainder
of this year and in the course of next year,” said Peter
Kinsella, currency strategist at Commerzbank.

FISCAL CLIFF CONCERNS
   
The euro was little changed at $1.3184. Offers were
cited above $1.3240. It hit a more than eight-month high of
$1.3308 last Wednesday as the euro zone debt crisis showed signs
of improvement. It rose 0.7 percent to 111.83 yen, not
far from a 16-month high of 112.49 yen hit on Dec. 19.
    Strategists said developments on the Italian elections and
Greece could see the euro grind higher in thin year-end trading.
However, if an impasse over the so-called U.S. “fiscal cliff”
will continue says Marc Chandler, global head of FX strategy at Brown Brothers
Harriman in New York, believes the U.S. government will go over
the cliff in January, but a deal will be worked out eventually.
    Karl Schamotta, senior strategist at Western Union Business
Solutions in Calgary, said “the ‘cliff’ is something of a
misnomer.” He said if no deal is reached before the New Year,
adjustments will be phased in over time, meaning that the
fundamental effect is likely to be smaller than many fear.
    That doesn’t mean that markets aren’t facing significant
risks and investors “will be forced to protect themselves en
masse,” he said.

    “This could have a major impact in the foreign exchange
world, as traders buy perceived safe havens like the dollar and
the yen, while selling more sensitive currencies like the
Canadian and Aussie dollars,” he said.

Fiscal Cliff and the Dollar