Dollar falls on expectations Fed will ease again

The dollar fell on Wednesday on speculation that the Federal Reserve may cut interest rates again this year to prevent a weak housing sector from damaging the broader economy.

Comments by former Fed Chairman Alan Greenspan on Wednesday and by San Francisco Fed President Janet Yellen late on Tuesday heightened concerns about the economy, adding to fears that signs of slower growth would lead to lower rates. Policy makers slashed the benchmark lending rate by 50 basis points to 4.75 percent last month.

The dollar has been undermined by the prospect of further rate cuts, and the currency has been unable to capitalize on last week's solid jobs report and rising bond yields, remaining near an all-time low against the euro.

Although minutes from the Fed's September meeting released on Tuesday revealed little inclination by the central bank to cut again this month, December rate futures assess a roughly 76 percent chance of a 25 basis point rate cut that month.

Implied prospects for another quarter point cut this month stand at about 34 percent, compared with 64 percent before Friday's stronger-than-expected September payrolls report.

"The market still believes (the Fed) will pause in October but there is still some easing to come," said Nick Bennenbroek, head currency strategist at Wells Fargo in New York.

Sterling rose, boosted when Bank of England Governor Mervyn King said he would monitor inflation closely, raising the bar for a UK rate cut.

The Fed's Yellen on Tuesday said the U.S. central bank’s move to slash rates last month helped limit risks but added it was too early to say the U.S. economy "has dodged a bullet." Falling home prices and a credit crisis sparked by losses on risky mortgage securities prompted the Fed's September cut. And on Wednesday, Greenspan said the credit squeeze that has rattled financial markets will take its toll eventually on the U.S. economy, adding to falling home prices and forcing consumers to cut back spending. Signs of continued growth outside the United States helped support some investor risk appetite.

"The market remains very short the dollar, and despite higher yields, diversification flows may have been acting as a headwind," UBS AG strategists wrote in a note to clients.

The euro got a boost from better-than-expected French and Italian production data, suggesting manufacturers have been able to adjust to a strong euro with minimal pain.

European Central Bank Governing Council member Erkki Liikanen told following a speech in Moscow that the euro zone faces downside risks to growth and upside risks to inflation. CMC Markets analyst Ashraf Laidi said the ECB does not appear ready to call an end to its rate-tightening campaign and said he expects the euro to make a run at $1.45 in early 2008. The ECB last lifted rates, to 4 percent, in June. It left them on hold at its last two policy meetings.

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