December 21, 2012 / 5:00 PM / 5 years ago

FOREX-Dollar rallies as U.S. budget impasse spurs safety bid

* "Fiscal cliff" uncertainty dents growth-linked currencies
    * Republicans spurn Boehner's Plan B on budget
    * Thin year-end markets may exacerbate currency moves

    By Gertrude Chavez-Dreyfuss
    NEW YORK, Dec 21 (Reuters) - The dollar firmed on Friday as
investors sought safety after U.S. budget negotiations to avert
spending cuts and tax increases took a turn for the worse,
fueling concerns the United States could slide into recession.
    The demand for the most liquid currencies, including the
dollar and the yen, grew at the expense of growth-linked
currencies such as the euro and Australian dollar after a budget
plan by the Republican speaker of the House of Representatives,
John Boehner, failed to win support from his party. 
    Boehner, in a news conference on Friday, said it is now up
to Obama and his fellow Democrats in Congress to reach a
solution to the fiscal cliff. 
    "While the latest developments have not scuttled the
possibility of a broader budget agreement being reached, the
timing is now very tight and the margin for error even slimmer,"
said Nick Bennenbroek, head of currency strategy at Wells Fargo
Bank in New York.
    "Further U.S. dollar strength and foreign currency weakness
is possible with the uncertain backdrop likely to persist for at
least the next few days."
    Boehner's Plan B, which would have raised taxes only on
those earning $1 million or more a year, was rejected by
conservative Republicans who adamantly oppose any tax increases.
    The dollar index rose 0.4 percent to 79.611.
Near-term resistance at the 200-week moving average of around
79.50 was breached as the greenback's rally gathered pace. The
dollar rose significantly against growth-linked currencies such
as the Australian and New Zealand dollars.
    The euro was down 0.5 percent at $1.3172, its worst
daily showing in two weeks. Europe's common currency had been in
demand in recent sessions on improved sentiment on euro zone
assets and earlier optimism on the U.S. fiscal cliff.
    The dollar, meanwhile, lagged the yen, as investors trimmed
large short positions against the Japanese currency after the
Bank of Japan this week increased its asset purchase program by
less than some had expected.
    The dollar was down 0.3 percent at 84.14 yen, below
its recent 20-month high of 84.62 yen. The yen also rose against
the euro, with the single currency down 0.8 percent at 110.81
    Both the dollar and the yen, the most liquid currencies, are
likely to be in demand as long as the outcome of the U.S. budget
talks remains uncertain. Gains could be exacerbated in thin
market conditions before the year's end.
    The Australian dollar fell to US$1.0410, its lowest
level since Dec. 4. The Aussie last changed hands at US$1.0417,
down 0.6 percent. The New Zealand dollar dropped 1.2
percent to US$0.8147.
    In the options market, near-term implied volatility rose as
uncertainty about the budget talks grew. Demand to hedge against
excessive price swings usually rises during times of financial
    One-month implied volatility rose to 7.2, from
around 6.8 earlier this week. The rise reflected a jump in the
volatility index for European stocks as investors sought
to hedge against sharp corrections in share prices. 
    Traders also reported demand for dollar/yen implied
volatilities. One-month dollar/yen volatility rose
above 8 vols from around 7 in the middle of the week.   
    Traders pared bets against the yen, which has been pressured
in recent weeks by expectations that a new Japanese government
will push the Bank of Japan into more forceful monetary easing.
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