Tokyo: The dollar leapt and the euro hit a nine-month low on Friday after the Federal Reserve said it was raising the interest rate it charges banks for emergency loans, stoking expectations it is moving towards normalising monetary policy.
The Fed said the discount rate would be increased to 0.75% from 0.50%, effective Friday, although it left the benchmark federal funds rate, its main policy tool, unchanged near zero.
The dollar index rose to its highest in eight months but later trimmed gains after Fed officials said the move was not a precursor to a rise in the benchmark rate and the market was putting too high a probability on a rate increase this year.
“The dollar will likely extend gains gradually on market expectations for further moves by the Fed towards normalisation of monetary policy,” said Tomohiro Nishida, treasury department manager at Chuo Mitsui Trust and Banking.
“But it will take more time before there is a hike in the fed funds rate as there need to be improvements in the US economy, such as in the labour market,” he said.
The dollar index, a gauge of its performance against six major currencies, rose 1% to 81.16 after climbing to its highest level in eight months around 81.30.
The euro was down 0.3% at $1.3484 after falling as far as $1.3443, its weakest since mid-May 2009. Dealers said strong selling had emerged when the euro rose after the Fed officials’ comments, limiting its scope to climb much more.
Against the Japanese currency the dollar hit its highest in a month at ¥92.10 on EBS but stopped short of piercing a 200-day moving average at ¥92.30 which has formed resistance in the past.
The timing of the Fed move surprised the market, although Fed chairman Ben Bernanke had said last week the central bank could soon raise the discount rate. Bernanke had stressed, however, that the move would not be akin to tightening monetary policy.
Analysts said Bernanke would have an opportunity to explain further in congressional testimony next week.
Shorter-dated Treasury yields rose after the discount move.
“Gains in US short-term interest rates after the rise in the discount rate make players want to buy the dollar, even though Fed officials say it is not the start of tightening,” said a trader at a Japanese bank.
“But if there are more comments by US officials playing down the possibility of the Fed tightening, the dollar’s upside could be weighed down,” he said.
Meanwhile, the Australian dollar extended losses despite hints by Reserve Bank of Australia Governor Glenn Stevens that further interest rate rises were likely.
The Aussie fell 0.4% to $0.8902.