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Wednesday June 4, 2008 - 20:45:21 GMT
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FOREX NEWS-Dollar up broadly as Bernanke cements Fed pause view

Wed Jun 4, 2008 4:35pm EDT

(Recasts, updates prices, changes byline)

* Dollar rises as Bernanke warns on inflation expectations

* Surprisingly upbeat economic data also lifts dollar

* Bernanke's remarks and data bolster Fed pause views

By Lucia Mutikani

NEW YORK, June 4 (Reuters) - The dollar rose on Wednesday after Federal Reserve chief Ben Bernanke highlighted growing inflation expectations as a "significant concern," yet another sign the central bank was likely done cutting interest rates.

Perceptions that the Fed could even tighten monetary policy later this year, after an aggressive rate-cutting campaign, were also hardened by unexpectedly strong economic data that suggested the United States would probably avoid a recession.

Steady or higher interest rates would help stem the erosion of the dollar's appeal to global investors.

"Bernanke's comments suggested that he's going to be far less accommodative when it comes to interest rates," said John McCarthy, director of foreign exchange at ING Capital Markets in New York.

"This is dollar-supportive because that means that interest rate differentials shouldn't fall as much."

The New York Board of Trade's dollar index, which tracks the dollar's performance against a basket of currencies, climbed to a session high of 73.517 .DXY, up 0.2 percent on the day.

Bernanke's latest remarks came on the heels of a rare warning on Tuesday that a weak dollar posed a risk of inflation.

"Interest rates are on hold in the United States, but there is a risk they could move higher depending upon incoming data," said Michael Woolfolk, senior currency strategist at Bank of New York Mellon.

"Bernanke and the Fed are concerned about rising inflation expectations, and once the financial markets crisis subsides further, they will be in a position to raise interest rates along with the European Central Bank."

CAUTION AHEAD OF ECB MEETING

Aggressive interest rate cuts by the Fed, aimed at heading off a recession, have undermined the dollar by reducing the appeal of assets denominated in the currency due to lower yields. Since September, the federal funds rate target has been slashed by 3.25 percentage points to 2 percent.

The euro dipped 0.1 percent to $1.5431 <EUR=>, but caution ahead of Thursday's ECB policy meeting saw traders reluctant to aggressively sell the European single currency.

The ECB is expected to leave its main lending rate unchanged at 4 percent, but President Jean-Claude Trichet's comments will be closely watched for indications of when the central bank might start moving on interest rates.

"Trichet has sounded very hawkish, so has (ECB Governing Council member Axel) Weber, recently. If they signal an imminent rate rise, which is not completely out of the question, that would be very favorable for the euro," said Woolfolk.

"That said, data out of Europe has disappointed, including the UK. The dollar is positioned to rally further, there is no question, once we get past the event risk of the two central bank meetings tomorrow."

The Bank of England is also due to meet on interest rates on Thursday. It is widely expected to keep rates steady at 5 percent. On Wednesday, sterling traded down 0.5 percent at 1.9542 <GBP=>.

Against the yen <JPY=>, the dollar rose 0.1 percent to 105.23 yen, brushing off a fall in U.S. stocks on a combination of fears of more credit-related losses and worries there would be no further cuts from the Fed.

Concerns about the credit crisis remained in the forefront as Moody's Investors Service said it would likely cut the credit ratings of the bond insurance arms of MBIA Inc (MBI.N: Quote, Profile, Research) and Ambac Financial Group (ABK.N: Quote, Profile, Research).

"We are still in a panic mode with these financials," said Joe Francomano, vice president for foreign exchange at Erste Bank in New York. "We are still in a credit crunch, but the reason we're not as down as before is that the Fed is more involved."

Wednesday's economic data showed the service sector and private employment posting surprising gains in May. For details, see [ID:nN04466345] (Additional reporting by Gertrude Chavez Dreyfuss; Editing by Jonathan Oatis)

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