Forex News – Euro weakness against dollar limited if Fed expands quantitative easing

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Europe’s on-going debt woes continue to make investors nervous and hurt the euro. Despite new leadership in Italy and Greece, that will implement new austerity measures, markets have not been calmed. Italy and Spain’s bond yields remain stubbornly high passing sustainable levels.

However, concerns are now growing that problems roiling the euro zone’s most indebted economies in the periphery are now spreading to larger economies with top notch sovereign credit ratings, such as France. An indication of this is the difference between French and German government yields widening in the past few days.

However despite the huge drop in the euro against the dollar in recent days, the EURUSD has been quite resilient. Euro would have fallen further had it not been for subtle dollar weakness. The dollar has been struggling to strengthen despite encouraging U.S. data . On Tuesday, October retail sales outpaced expectations, and last month the key Non-farm payroll report showed more jobs created in the US than expected, meaning the U.S. economy has shown surprising resilience and is steering away from a rescission.

However, the dollar is not growing much stronger because of the possibility that the US Federal Reserve might introduce a third round of quantitative easing to follow form the recent QE2. This would result in more bond-buying, resulting in a weaker dollar due to the supply of dollars in the system.

The US job and housing market are still stubbornly slow so the Fed may wish to stimulate further. On Tuesday, St. Louis Fed President James Bullard said U.S. monetary policy is “appropriately calibrated” for current conditions, and would not rule out new stimulus if the economy took a turn for the worse.