Economics: Last week saw two significant market moves. In the commodity markets the price of crude oil fell below $50 (39.5) a barrel, opening up the prospect of a steeper fall to $45 or even $40. In the foreign exchange market the dollar rose through a number of key levels against the major currencies, including the euro.

Indeed, the euro has fared badly against the US currency in 2005, having fallen by around 8 per cent since the turn of the year, from a high of $1.36 to around $1.26. The latter is the lowest traded since the autumn of 2004 and also represents a clear break of a three-year upward trend in the euro/ dollar rate.

That fact may prompt traders to start betting on further losses, so pushing the euro/dollar rate below $1.25, at least in the short term.

The main factor behind the dollar's advance is the scale of private capital flows into the US, in turn attracted by higher interest rates, with the prospect of more monetary tightening to come.

The Federal Reserve (the US central bank) decided about a year ago that the economy no longer needed the stimulus of "cheap" money (dollar interest rates were then at 1 per cent) and announced the intention to move US rates back up to more normal levels.

This process started in June 2004, with interest rates moving up by one quarter of one per cent, a trivial move in itself, but not if repeated over eight successive meetings, as subsequently transpired.

As a result, short-term interest rates are now at 3 per cent, equivalent to 1 per cent above short-term euro rates and virtually a full 3 per cent above those on offer in Tokyo.

Moreover, there is nothing to suggest an imminent change in Fed policy, so further increases are on the cards.

The economy has slowed from the 4.5 per cent growth rate recorded last year, but is still expanding at a pace sufficient to generate enough jobs to put downward pressure on the unemployment rate.

In the last three months, for example, US employment has risen by 720,000, which is well above the 450,000 or so required to absorb the rise in the labour force. In fact, the strength of economic activity is putting some pressure on prices, and consumer price inflation has risen to 3.1 per cent from 1.7 per cent a year earlier.

Higher oil prices are a factor, but if one looks at the "core" rate, which excludes food and energy, inflation has also accelerated from 1.6 per cent to 2.3 per cent. The latter is not that high, of course, but may well be sufficient to keep the Fed in tightening mode for some time, in the absence of a pronounced softening in economic growth. For that reason, short rates in the US may well be up around 4 per cent by year-end.

In contrast, the market is no longer expecting a rate rise this year by the ECB, so euro rates are projected to end 2005 at 2 per cent, implying an even wider interest rate differential in favour of the dollar over the coming months.

The ECB certainly seems keen to follow the US example in raising rates to a more normal level, but, unlike the Fed, it does not have the economic justification to proceed. True, first-quarter GDP growth in the euro area was around trend level, with the German economy surprisingly strong, but the Italian numbers were awful, implying a recession in that economy.

Sentiment can and does change quickly, of course, and a combination of lower oil prices and a weaker euro could still precipitate higher ECB rates in the next six months, but for the moment higher rates are seen as the preserve of the US alone, resulting in a sharp pick up in foreign buying of US assets, particularly Government and corporate bonds.

Some $90 billion (€71.3 billion) a month has been flowing into the US capital markets of late, comfortably in excess of the monthly trade deficit, with most of this coming from the private sector.

So the US is certainly not dependent on the support of foreign central banks alone, as the return on assets is now high enough to convince private investors to switch from euros to dollars.

Selling of the euro may also in part be a response to the political uncertainty surrounding the ratification of the European constitution, with both France and the Netherlands voting on the issue over the next few weeks.

Early polls pointed to a French "Non" but the latest suggest it is a close call, although the "Yes" campaign looks in clear trouble in Holland.

A rejection of the treaty may not be too serious in market eyes, but is unlikely to be a catalyst to buy the single currency.

The configuration of such European economic and political woes alongside higher US rates has resulted in a stabilisation of the US currency, and perhaps signals the beginning of a more pronounced period of dollar strength.

Dr Dan McLaughlin is chief economist at Bank of Ireland