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RPT-GLOBAL MARKETS WEEKAHEAD-Tide may be turning for dollar

Reuters - Monday, May 12

LONDON, May 11 - The tide may be turning at last for the U.S. dollar after seven years of decline as policymakers recognise the inflationary threat of an endlessly weakening greenback, whose losses have driven up oil and commodity prices.

Speeches this week by central bank governors from the United States, the euro zone and Japan as well as other finance chiefs from major economies will probably reinforce the view that authorities may finally wish to see a floor for the dollar.

Investors will also scrutinise consumer price figures from Britain, the euro zone and the United States and growth indicators from the euro zone and Japan, which could confirm a difficult picture of slowing growth and rising inflation.

After hitting all-time troughs in mid-March, the dollar has risen more than 3 percent to hit a two-month peak against its six major peers in the past week, coinciding with growing expectations that the worst of the credit crisis maybe over.

The seven-week rally comes after a downtrend since 2001 that reduced the U.S. currency's value by more than 40 percent.

A weakening dollar has contributed to a surge in the cost of raw materials, which are mainly priced in the U.S. currency, with everything from oil to corn and copper hitting historic highs.

And inflation dangers pose a headache for central banks, especially the U.S. Federal Reserve which has cut interest rates seven times since September to 2 percent, the lowest since December 2004, to shore up the economy.

"It seems as if U.S. Treasury and possibly even Federal Reserve officials might be starting to view the dollar's slide as an inflation risk," said Steven Pearson, chief strategist at Bank of Scotland.

"Certainly U.S. political figures will not want the Fed's ability to ease monetary policy impeded in any way. In this sense the objection to the weakness of the dollar is understandable -- a stronger dollar is starting to be in everyone's interest."

And a growing Fed focus on inflation means the end might be near for a U.S. campaign to relax monetary policy to fight the economic fallout from the nine-month-old credit crisis.

Interest rate futures <FEDWATCH> are already pricing in a chance that the Fed has already finished cutting interest rates.

Kansas City Fed President Thomas Hoenig has even said the central bank must be ready to raise interest rates given the troublesome inflation outlook.

Andrew Garthwaite, research analyst at Credit Suisse, says valuations, an improving U.S. current account deficit, narrowing U.S. interest rate and growth differentials over the euro zone and Britain are part of the reasons why the dollar should find a bottom soon. He also says companies with a high proportion of revenues and a low proportion of costs sourced in U.S. dollars should benefit from a strong dollar.

Garthwaite listed Rolls Royce and HSBC among the likely winners, and Alcatel Lucent and Nokia among potential losers.

GROWTH/INFLATION TRADE-OFF

This week's economic indicators could add to recent signs that the world's major economies are losing momentum at a time price pressures threaten to erode corporate profits and hit consumer confidence further.

First quarter gross domestic product data from the euro zone is due on Thursday and Japan on Friday. Britain has producer prices data on Monday and consumer inflation figures on Tuesday, while the United States and euro zone announce their consumer price index data on Wednesday and Thursday respectively.

The high price of oil -- which has risen six-fold since 2002 due to supply worries and strong demand from emerging economies -- would certainly weigh on growth. Credit Suisse estimates that oil at $120 a barrel takes 0.6 percent off U.S. GDP and add 1.2 percent to inflation. On Friday, U.S. crude <CLc1> hit a record high of $126.20 a barrel.

Goldman Sachs reckons firms in utilities, telecom, health care, oil and gas and basic resources would benefit from this deterioration in the global inflation/growth trade-off, while travel and leisure, auto, construction and retail companies will lose.

"Over the past few years, firms have been able to pass through price increases to cover rising costs, but this may become more difficult as economic growth slows," the U.S. bank said in a note to clients.

Goldman expects those closest to the end-consumer may have the most trouble, while those closest to the beginning of the supply chain will have more success.

"The deterioration in the global inflation/growth trade-off... will become an increasingly strong headwind for companies with record margins in an environment of slower end demand," it said.

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