FOREX

U.S. Dollar Index Continues to Slide as Fed Credibility Wanes

Witawat (Ed) Wijaranakula, Ph.D.
Thu Feb 11, 2016

The U.S. dollar index (DXY), a weighted index of the value of the U.S. dollar relative to a basket of six major currencies, continued its downtrend to close at 95.61 on Thursday, down another 1.49% so far this week after a 2.61% nosedive last week, despite that U.S. Federal Reserve Chair Janet Yellen didnít explicitly mention any delays to interest rate hikes during her two-day semiannual monetary policy report to Congress. Ms. Yellen, however, told the U.S. Congress that overseas weakness and market distress could threaten the Fed's plans to raise the rate gradually this year and she was surprised by plunging crude oil prices.

Top Federal Reserve officials have been recently sending out mixed messages that move the currency markets. The DXY topped out at 99.75 last Monday after Fed Vice Chairman Stanley Fischer, in remarks that day prepared for the Council on Foreign Relations in New York, signaled that he did not know the central bank's next move, even as concerns about the global outlook have grown and inflation continues to lag below expectations.

One day later, Kansas City Federal Reserve President Esther George, a voting member on the Fed's policymaking committee, said in prepared remarks before the Central Exchange in Kansas City, Missouri, that the central bank got a "late start" by raising its interest rate target in December, with more hikes to come. The recent market pain is not surprising or worrying, she added. Her remarks sent the WTI crude oil price and the yield of the 10-year U.S. Treasury Note tumbling 5.14% and 5.08%, respectively, while the USD/JPY and DXY sank 0.84% and 0.17%, respectively, last Tuesday.

The U.S. dollar took a tumble last Wednesday, following remarks from William C. Dudley, the president of Federal Reserve Bank of New York, in an interview with news service MNSI, saying that the financial conditions have tightened since the Federal Reserve hiked rates in December and that could affect the Fedís decision-making. On Thursday, Cleveland Fed President Loretta Mester said at a Market News International conference that volatility in financial markets, as well as deflationary pressures from the plunge in energy prices, shouldn't keep the U.S. central bank from raising rates. 

Last Wednesday, Deutsche Bank's chief U.S. economist, Joseph LaVorgna, told CNBC that the odds of a U.S. recession this year have risen to 40%. Although the January non-farm payrolls report, which came in well below economists' forecasts, might help ease concerns that the U.S. economy isnít heading into a recession, the narrowing of the yield spread between the 10-year and 2-year Treasury Notes, down to 1 percentage point on Wednesday, triggered a U.S. dollar sell-off and a rotation into safe-haven currencies and assets, such as the Japanese yen, Swiss franc and gold. 

From a technical viewpoint, the U.S. dollar index has been trading in a range between 94 and 100. The index has also been moving in a bearish ascending wedge chart pattern since last October. The DXY recently made a double top at the 99 level in January, and pulled back sharply after some Fed officials turned less hawkish on their rate hikes. The index just broke through the 50% Fibonacci retracement level at 96.27, from the decline in July 2001 to April 2008, and is bouncing on the trendline support at around 95.80. 

Janet Yellenís testimony in front of Congress was ineffective in providing support to the U.S. dollar index. Consequently, the index could pull back further to the 94 level, where the broadening descending wedge chart pattern emerges.

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