Dollar on defensive after dovish Powell, debt ceiling setback

The dollar nursed losses against the yen and euro on Monday following a surprise breakdown in U.S. debt ceiling negotiations and after Federal Reserve chair Jerome Powell indicated a preference to slow rate hikes.

The greenback slipped 0.15per cent to 137.715 yen at the start of the week, having snapped a six-day winning streak on Friday and pulling back from a six-month peak.

The euro added 0.14 per cent to $1.0822, extending Friday's advance, when it bounced off a seven-week low.

Investors now await a key meeting between U.S. President Joe Biden and House Republican Speaker Kevin McCarthy to discuss the debt ceiling on Monday.

Negotiations between the two sides broke off suddenly on Friday with Republican negotiators walking out of the meeting. Although talks eventually resumed, neither side cited any progress, knocking the dollar lower.

Many currency analysts say brinkmanship is to be expected heading toward the ostensible "X-date" in early June when the Treasury is likely to run out of money.

"Have we not seen this movie before" National Australia Bank strategist Rodrigo Catril said in a client note, while Westpac strategist Sean Callow called it a "hiccup."

"The broad outlines of a deal are still in sight," said Callow.

Instead, the dollar is more likely to be driven by the Fed outlook, and "Powell's preference for a pause in June should outweigh any hawkish notes from regional Fed presidents, leaving DXY as a sell on rallies," Callow added, referring to the U.S. dollar index.

Powell told a central bank conference in Washington on Friday that tighter credit conditions mean "our policy rate may not need to rise as much as it would have otherwise to achieve our goals," although he reiterated that decisions would be made "meeting by meeting."

Money market traders have pared back bets for a hike on June 14 to just 9per cent.

The dollar index, which measures the U.S. currency against six major peers, edged 0.04per cent lower to 103.00, after reaching 103.63 last week for the first time since March 20.

Westpac's Callow projects the index could drop toward 101 in the coming days or weeks, "especially given ongoing ECB resolve on inflation."

European Central Bank president Christine Lagarde said Friday that officials need to "buckle up" for "sustainably high-interest rates" in order to achieve its inflation target.

Elsewhere, sterling gained 0.14per cent to $1.2464, continuing its recovery from last week's three-week low.

The Australian dollar ticked up 0.06per cent to $0.6655, while the New Zealand dollar advanced 0.13 per cent to $0.62835.

The Chinese yuan was little changed in offshore trading at 7.0334, following Friday's rebound from a nearly six-month low of 7.0750 per dollar, supported by central bank comments that it would curb large exchange rate fluctuations.