By Karen Brettell and Gertrude Chavez-Dreyfuss
NEW YORK (Reuters) -The dollar dropped to a six-week low against the yen on Thursday, tracking the decline in Treasury yields, after data showed the U.S. economy contracted again in the second quarter, fueling speculation that the Federal Reserve will not raise rates as aggressively as previously expected.
The greenback was on track for its largest daily percentage fall against the yen since March 2020. In the U.S. Treasury market, two-year yields, which reflect interest rate expectations, fell to a three-week low. From its peak on Wednesday, the two-year yield has declined by 22 basis points.
Data showed on Thursday that gross domestic product fell at a 0.9% annualized rate in the second quarter. Consumer spending grew at its slowest pace in two years and business spending contracted, raising the risk that the economy was on the cusp of a recession. Economists polled by Reuters had forecast GDP rebounding at a 0.5% rate.
The data came a day after the Federal Reserve raised interest rates by another 75 bps to stamp out inflation.
The Fed’s action, coupled with earlier moves in March, May and June, has lifted the central bank’s overnight interest rate from near zero to a level between 2.25% and 2.50%. That is the fastest tightening of monetary policy since former Fed Chair Paul Volcker battled double-digit inflation in the 1980s.
“The weak GDP clearly points to a slowing economy. We think softer inflation will follow softer growth,” said Vassal Serebriakov, FX strategist, at UBS in New York.
“Once that happens, the market will see the end of the tightening cycle and that will probably hurt the dollar primarily against the yen, just because that’s the currency pair that tracks U.S. inflation and rate expectations the closest.” he added.
In afternoon trading, the dollar sank 1.7% to 134.31 yen after earlier plunging to a six-week trough of 134.30 yen.
“Essentially dollar/yen is a reflection of the Fed terminal rate and that is being revised lower by markets,” said Mazen Issa, senior FX strategist, at TD Securities in New York.
Fed funds futures traders on Thursday have priced in a lower benchmark rate of 3.25% in December, compared with 3.4% before the Fed decision on Wednesday. The market has also factored in just 92 bps of cumulative tightening by the end of 2022, from 108 bps before Wednesday’s Fed announcement.
At the next Fed meeting in September, the rates market has priced in a 76% chance of a 50-bps rate rise.
The greenback had dipped on Wednesday after the Fed’s 75-bps rate increase as the move was widely anticipated, while comments from Fed Chair Jerome Powell spurred hopes for a slower hiking path.
Against a basket of major currencies, the dollar slipped 0.1% to 106.25 on Thursday. It has fallen from 109.29 on July 14, which was the highest since September 2002.
The euro fell 0.1% to $1.0184. It traded as low as $0.9952 on July 14, the weakest since December 2002, hurt by concerns about the region’s energy crisis.
“The weaker the gas supply to Western Europe, the greater the risk of the bloc economy descending into recession, a scenario that could limit scope for the ECB (European Central Bank) to raise rates to counter record inflation,” said Joe Manimbo, senior market analyst at payments company Convera in Washington.
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Currency bid prices at 3:30PM (1930 GMT)
Description RIC Last U.S. Close Pct Change YTD Pct High Bid Low Bid
Previous Change
Session
Dollar index 106.2300 106.3600 -0.10% 11.046% +106.9800 +106.0500
Euro/Dollar $1.0186 $1.0199 -0.13% -10.41% +$1.0234 +$1.0114
Dollar/Yen 134.2300 136.6100 -1.74% +16.60% +136.5700 +134.2000
Euro/Yen 136.71 139.26 -1.83% +4.90% +139.3300 +136.3900
Dollar/Swiss 0.9546 0.9596 -0.48% +4.69% +0.9631 +0.9546
Sterling/Dollar $1.2164 $1.2158 +0.05% -10.06% +$1.2191 +$1.2105
Dollar/Canadian 1.2812 1.2824 -0.09% +1.34% +1.2869 +1.2795
Aussie/Dollar $0.6982 $0.6994 -0.18% -3.96% +$0.7013 +$0.6955
Euro/Swiss 0.9723 0.9786 -0.64% -6.23% +0.9805 +0.9709
Euro/Sterling 0.8372 0.8390 -0.21% -0.33% +0.8403 +0.8346
NZ $0.6289 $0.6261 +0.48% -8.09% +$0.6292 +$0.6252
Dollar/Dollar
Dollar/Norway 9.7320 9.7335 +0.35% +10.88% +9.8150 +9.6830
Euro/Norway 9.9170 9.9353 -0.18% -0.96% +9.9779 +9.8718
Dollar/Sweden 10.2147 10.2070 -0.18% +13.27% +10.3289 +10.1937
Euro/Sweden 10.4041 10.4224 -0.18% +1.66% +10.4585 +10.4008
(Reporting by Karen Brettel and Gertrude Chavez-Dreyfuss in New York; Additional reporting by Saikat Chatterjee in London; Editing by Alison Williams and Nick Zieminski)