Capital Gold Group Report: U.S. GOVERNMENT BAILOUTS BADLY DAMAGING TO U.S. DEBT AND U.S. DOLLAR

By Ye Xie and Daniel Kruger

Sept. 22 (Bloomberg) -- The dollar fell the most against the euro since January 2001, while U.S. stocks and bonds tumbled, on concern the U.S. proposal to rescue banks from the subprime-mortgage crisis will inflate the budget deficit.

The greenback dropped 2.1 percent against the euro. The Standard & Poor's 500 Index decreased 2.3 percent, retreating after the biggest two-day rally since 1987. Yields on 10-year Treasuries rose 0.6 percentage point to 3.87 percent, and oil prices jumped 10 percent.

``Selling is feeding on itself,'' said Richard Franulovich, a senior currency strategist at Westpac Banking Corp. in New York. ``There's just a growing appreciation that the scale of obligations the U.S. government is taking on board is stretching the limit of what's credible and is badly damaging to U.S. debt and the U.S. dollar.''

The dollar fell to $1.4789 per euro at 1:33 p.m. in New York, from $1.4466 on Sept. 19. It touched $1.4797, the weakest level since Aug. 28.

The S&P 500 retreated 22.36, or 1.8 percent, to 1,232.72, led by regional banks that may get hurt by the bailout. The price of the 4 percent Treasury note due in August 2018 fell 11/32, or $3.44 per $1,000 face amount, to 100 30/32, according to BGCantor Market data. Crude oil for October delivery rose $10.70, or 10 percent, to $115.25 a barrel on the New York Mercantile Exchange. Futures climbed as much as $11.12 to $115.67 a barrel, the highest since Sept. 2.

The dollar has lost more than 5 percent versus the euro since touching a one-year high of $1.3882 on Sept. 11. The dollar reached $1.6038 on July 15, the weakest level since the European currency's 1999 debut.

No Dollar `Support'

``Fundamentally speaking, nothing is supporting the dollar,'' Tom Sowanick, who helps manage $10 billion as chief investment officer at Clearbrook Financial LLC in Princeton, New Jersey. ``Why should foreign investors continue to support the U.S. financial system?''

The bailout plan, sent to Congress Sept. 20, would mark unprecedented government participation in markets and increase the nation's debt ceiling by 6.6 percent to $11.315 trillion. Officials may also provide $400 billion of guarantees for money- market funds.

The dollar will get ``crushed,'' as the extra spending reduces the allure of U.S. assets to foreign investors, said John Taylor, chairman of New York-based International Foreign Exchange Concepts Inc., the world's biggest currency hedge-fund firm, which manages about $15 billion.

Treasury Secretary Henry Paulson and Federal Reserve Chairman Ben S. Bernanke began plotting the rescue last week after New York-based Lehman Brothers Holdings Inc. filed for bankruptcy, the government seized control of American International Group Inc., and Merrill Lynch & Co. was forced into the arms of Bank of America Corp. Paulson and Bernanke are due to testify before the Senate tomorrow on the banking crisis.

Stronger Yen

The yen rose 1 percent to 73.30 versus the New Zealand dollar and 59.31 against the Brazilian real on reduced demand for carry trades, in which traders get funds in a country with low borrowing costs and invest where returns are higher. The Bank of Japan's target lending rate of 0.5 percent compares with 4.25 percent in Europe, 7.5 percent in New Zealand and 13.75 percent in Brazil.

``Even with a plan, the likelihood there will be a very severe slowdown in the U.S. and elsewhere has increased,'' said Simon Derrick, chief currency strategist in London at Bank of New York Mellon Corp. ``I don't think people will return to the same old risk-taking world.''

The rand weakened 0.8 percent to 8.0233 per dollar as South African President Thabo Mbeki's resignation increased speculation foreign investors will sell the country's assets on extended global financial turmoil. The currency dropped 2 percent to 11.6860 against the euro.

The chance of the Fed cutting its benchmark 2 percent rate by a quarter-percentage point at an Oct. 29 policy meeting was 38 percent, compared with zero a month ago, futures contracts on the Chicago Board of Trade showed. The European Central Bank's main refinancing rate is 4.25 percent.

Economic Data

Home resales declined to 4.94 million last month from 5 million in July, according to the median forecast of 70 economists surveyed by Bloomberg News. The National Association of Realtors' report is scheduled for release Sept. 24. The Commerce Department is forecast to report the next day that sales of new houses dropped to 510,000 from 515,000 and that durable goods orders fell 1.8 percent.

``We look for the dollar to reflect the weakness in the U.S. economy,'' said David Powell, a currency strategist at Bank of America in London. ``The dollar is not yet receiving the yield support that would normally be acquired in order to support a sustained rally.''

The yield advantage of two-year German bund over the comparable-maturity U.S. notes widened to 1.81 percentage points, from 1.66 at the beginning of the month, making the U.S. assets less attractive.

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