The dollar extended losses in early January trading after several Federal Reserve officials suggested the central bank may taper its balance sheet reduction program sooner than previously anticipated. The greenback's decline accelerated during the first full trading week of 2026 as fixed-income traders priced in a more dovish policy trajectory, sending the currency to multi-week lows against most G10 counterparts. Market participants say the shift in focus from interest rates to balance sheet policy represents a significant evolution in Fed communication.
According to strategists, the central bank's quantitative tightening program has removed substantial liquidity from financial markets since its inception, and any moderation could ease dollar funding pressures globally. "The market is increasingly sensitive to any hints about QT tapering," noted a senior currency trader at a major European bank. "This is becoming as important as the fed funds rate for dollar direction." In contrast, the European Central Bank and Bank of Japan have maintained more predictable balance sheet policies, supporting their respective currencies through relative stability.
Commodity currencies emerged as the primary beneficiaries of the dollar's weakness and improving risk sentiment. The Australian dollar and New Zealand dollar both strengthened significantly, gaining traction on speculation that Chinese authorities will announce additional property sector support measures in coming weeks. Traders say recent comments from Chinese policymakers have boosted confidence in regional growth prospects. The Canadian dollar also advanced as crude oil prices trended higher on optimism about demand recovery, though gains were more modest amid concerns about North American trade policy discussions.
Meanwhile, the euro and British pound continued their ascent against the greenback, with market analysts pointing to divergent central bank communication as a key driver. Sterling's rally gained momentum after Bank of England officials pushed back against aggressive rate-cut expectations for 2026, while the euro benefited from resilient economic data from the eurozone's largest economies. In the cryptocurrency space, bitcoin strengthened alongside traditional risk assets as institutional flows into newly approved ETF products remained robust. Looking ahead, traders are closely watching the release of December FOMC minutes and upcoming speeches from Fed governors for further clarity on balance sheet policy timing.
Disclaimer: This analysis is AI-generated for educational purposes. Traders should verify all information and conduct their own research before making trading decisions.