Dollar higher as bets rise on another oversized Fed rate hike

© Reuters. FILE PHOTO: Pound and U.S. dollar banknotes are seen in this illustration taken January 6, 2020. REUTERS/Dado Ruvic/Illustration

By John McCrank

NEW YORK (Reuters) -The dollar rose on Tuesday, but was below the 20-year high it hit a day earlier, while the euro edged higher but failed to remain above parity, as markets priced in super-sized interest rate hikes by both the U.S. Federal Reserve and the European Central Bank (ECB).

The dollar index was up 0.285% at 108.96 at 10:35 a.m. Eastern time (1435 GMT), after touching 109.48 on Monday, its highest level since September 2002.

The greenback has been supported by aggressive rate hikes by the Fed in an effort to reel in decades-high inflation.

Some traders had bet the Fed would pivot to a more accommodative stance early in 2023, but those expectations were dashed on Friday when Chairman Jerome Powell said at the Jackson Hole conference in Wyoming that the central bank would raise rates and keep them high for some time.

"The dust is finally settling now post-Jackson Hole, and the question for markets is, what's going to change the narrative? And an argument is it's Friday's payroll, so we're seeing a bit of a consolidation of last week's move playing out here," said Simon Harvey, an FX market analyst at Monex Europe.

All eyes will be on U.S. nonfarm payrolls data for August on Friday, as any cooling in labor demand would ease pressure on the Fed to stick with outsized rate hikes.

Data on Tuesday supported a stronger dollar.

One report showed that U.S. consumer confidence rebounded more than expected in August after three straight monthly declines, with vacation intentions rising to an eight-month high, a potential positive signal for consumer spending.

Another data set showed that demand for labor remained high in July as U.S. job openings increased.

Traders increased their bets on the chance of a third straight 75-basis-point rate hike by the Fed in September to 76.5% from around 66.5% about an hour before Tuesday's U.S. economic data was released.

The European common currency was 0.02% higher at $0.9997, dropping back below parity with the greenback after Tuesday's U.S. data was released.

The euro has risen over the past few sessions by aggressive pricing of expected ECB rate hikes, as well as a softening of natural gas prices, said John Hardy head of FX strategy at Saxo Bank.

"It's also noticeable we've seen a bit of magnetism around this parity level for euro/dollar, so many times these big round levels can become major sticking points," he said.

British and Dutch wholesale gas prices eased on Tuesday as Europe almost reached its target of gas inventories being 80% full. [NG/EU]

Market pricing indicates roughly a 50% chance of a 75-basis-point interest rate increase at the ECB's next meeting after a parade of ECB speakers at Jackson Hole backed the case for a big hike, though this pricing came down a little on Tuesday.

Also on traders' radars are several ECB speakers due to make public remarks later on Tuesday, which could guide markets toward or away from such a large rate increase.

Sterling fell 0.56% to $1.164 coming off of a UK bank holiday on Monday.

The dollar was down 0.14% against the Japanese yen at 138.895 yen.

Bitcoin fell back below the $20,000 level after having hit a six-week low of $19,526 over the weekend.