The dollar sagged on Wednesday as attention shifted to the growing threat Hurricane Rita posed to the battered US Gulf Coast after Tuesday's rally prompted by the latest United States interest rate hike fizzled.
Some traders wondered if the effect of likely damage from Rita on top of the havoc already wrought by Hurricane Katrina might make the Federal Reserve pause in tightening credit.
"If the devastation is as widespread in the Houston and Galveston areas as it was in New Orleans, I can't help but believe it will have a sizable impact on the growth rate of the US economy," said John McCarthy, director of foreign exchange trading at ING Capital Markets LLC in New York.
If gasoline prices rose further and consumer confidence and spending suffered, that could force the Fed to reconsider whether to pause in its 15-month-old cycle of rate increases, he said. The dollar would initially slip if that were the market's perception, McCarthy added.
Late in New York, the euro was trading up 0.8 percent against the dollar at $1.2216.
A flurry of dollar buying following the Fed decision Tuesday to raise rates failed to force the euro below $1.2100, a seven-week low to which the euro had slipped on Monday.
"It looks like there is a firm bottom for the euro in place at $1.21 to $1.2120. A lot of people are already quite short the euro, and the dollar was unable to get through $1.21," said Richard Franulovich, senior currency strategist at Westpac Banking Corp Middle East accounts were keen buyers of euros, he said.
The dollar has been boosted since early this year by the prospect of rising interest rates. Rising US yields burnish the attraction of dollar-denominated deposits.
The Fed on Tuesday raised its benchmark federal funds rate 25 basis points to 3.75 percent in a widely anticipated move.
The central bank also said that while Hurricane Katrina had "increased uncertainty about near-term economic performance," it did not pose a more persistent threat to the US economy.
Economists said the Fed's statement suggested it was not finished raising rates. In a poll of Wall Street economists taken after the rate hike, 19 of 21 said they expected the Fed to raise rates again in November. A majority also predicted it would tighten policy further in December and in January.
The dollar was down 0.6 percent to 111.26 yen and was down 0.9 percent to 1.2704 Swiss francs.
Sterling gained 0.6 percent against the dollar to $1.8093 after minutes from this month's Bank of England policy meeting revealed a unanimous vote to hold rates steady, softening expectations for a near-term rate cut.
The US Energy Information Administration said on Wednesday that Rita, now a dangerous Category 5 storm may threaten up to 18 Texas refineries that account for 23 percent of US refining capacity. A squeeze in supply of products such as gasoline, especially if sustained, could force up energy costs and slow US economic growth over the long term.
November crude settled up 60 cents at $66.80 a barrel on the New York Mercantile Exchange.
NYMEX October gasoline settled up 7.65 cents at $2.05 a gallon.
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