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SYDNEY: The Aussie dollar nursed losses at a four-month low on Wednesday as diverging interest rate expectations between the U.S. and Australia plunged local yields to the biggest discount versus Treasuries in almost four decades.

The Aussie was at $0.6594, after tumbling 2.2% overnight to as low as $0.6580. It later found support at $0.6585, one of many troughs since November, and at retracement level of $0.6550.

However, the bearish trend could see the currency soon to test its 2022 low of $0.6170, after the Reserve Bank of Australia signalled a likely pause in rate increases in April after raising interest rates to an 11-year high.

Australia dollar slips, bonds rally as RBA softens hawkish outlook

The dovish tilt by the RBA stood in contrast with a hawkish Jerome Powell who told U.S. lawmakers overnight that the Federal Reserve would likely need to raise interest rates more than expected in response to recent strong data and is prepared to move in larger steps.

That opened the door to a 50 bps increase at the policy meeting later this month, with futures market pricing in a 62% probability that the Fed would pivot back to a larger rise after stepping down to just a quarter-point last month.

Short-term U.S. yields jumped to the highest since 2007, leaving the spread over their Aussie counterparts at a staggering positive 150 basis points, the most inverted since September 1984.

The kiwi dollar also took a 1.5% plunge overnight before stabilising at $0.6108, although the hawkish bias from the Reserve Bank of New Zealand provided some support.

The Aussie steadied a little against the kiwi at NZ$1.0789 on Wednesday, after easing 0.7% overnight to a seven-week low of NZ$1.0738.

RBA Governor Philip Lowe said the outlook for inflation and wages in Australia was not as troubling as in the United States, and markets should understand that.

“In short, Lowe seemed open to a growing divergence in the path of monetary policy between Australia and the U.S.,” said Belinda Allen, a senior economist at Commonwealth Bank of Australia.

Markets have pared back the likely peak for rates in Australia to about 4%, compared with almost 4.2% before the RBA’s rate decision.

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