Beyond rate hikes: What’s next for the dollar?

A renewed wave of U.S.-dollar bearishness swept into the forex arena in mid-April, taking the greenback sharply lower vs. the yen and the euro into mid-May. Heading into the second half of 2006, it’s important to take a look at the major factors driving the U.S. dollar to determine which will likely grab the reins into the latter portion of this year.

Interest-rate differentials and Fed rate hikes have been a dominating market factor for those trading the U.S. dollar over the past year or so. The U.S. Fed hiked rates 16 consecutive times as of the May 10 meeting, which pushed up the funds rate to 5.00 percent.

With the next Federal Open Market Committee (FOMC) meeting looming on June 28-29, many analysts believe the Fed could pause the hike cycle. However, the wording of the latest policy statement has left the door open for either a pause or a hike, depending on growth and inflation data.

According to the Fed’s May 10 statement, “The Committee judges that some further policy firming may yet be needed to address inflation risks but emphasizes that the extent and timing of any such firming will depend importantly on the evolution of the economic outlook as implied by incoming information.”