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Calm Surface Masks Turmoil

Relatively modest moves by the major averages aside, Tuesday was a significant day in the financial markets. The dollar got slammed, which fueled gains in commodity prices; that, in turn, spurred a self-generating cycle of more dollar losses, especially against the currencies of commodity-producing nations such as South Africa. Meanwhile, the Treasury market got whipsawed by the dollar's weakness, more concerns about central bank selling, and some potentially conflicting commentary from three Federal Reserve governors.

Yet all the sturm und drang in the so-called other markets had seemingly no dramatic effect on major averages, although they ended lower and near their lows of the session. The Dow Jones Industrial Average fell 0.2% to 10,912.62, the S&P 500 lost 0.5% to 1219.43 and the Nasdaq Composite shed 0.8% to 2073.55.

There was some angst about the dollar, however, which fell to a two-month low vs. the euro after a key European Central Bank policymaker said the eurozone has "extremely low interest rates," which "will boost inflation in the end." That spurred speculation of a possible ECB rate hike. The central bank has kept its key lending rate at 2% since June 2003. ECB tightening would minimize the newly minted yield advantage of the fed funds rate -- which the Fed has raised to 2.50% with its "measured" tightening campaign -- and thus the potential appeal of dollar-denominated assets.

Speaking of the Fed, "my expectation is that the committee will continue to remove policy accommodation in a measured way," Fed Governor Ben Bernanke said in a speech at the Executives' Club of Chicago. Conversely, St. Louis Fed President William Poole, in a separate speech, said he expected the measured language to be removed eventually, while Philadelphia Fed President Anthony Santomero said "it's neither customary nor necessary for the Fed or any other central bank to announce long-term policy in its statements."

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