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Friday June 13, 2008 - 23:52:28 GMT
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FOREX NEWS - Dollar caps best week since 05 as inflation looms

Fri Jun 13, 2008 4:14pm EDT

By Steven C. Johnson

NEW YORK (Reuters) - The dollar jumped against the euro on Friday and notched up its best week against a basket of currencies since 2005 as mounting inflation fears had investors bracing for Federal Reserve interest rate hikes this year.

The euro also softened after Irish voters rejected a treaty promoting closer European Union unity, putting wide-ranging institutional reform plans at risk and sending the euro to a one-month low at $1.5304. It clawed back to $1.5360 in late trade, still down 0.6 percent on the day.

The single currency ended the week 2.7 percent weaker against the dollar, its biggest weekly slide since January 2005, while the dollar index .DXY, a gauge of the greenback against six major currencies, also had its best week in more than three years.

The main driver for the dollar has been inflation. Surging energy costs have sparked tough talk from Treasury and Fed officials in recent weeks, including Chairman Ben Bernanke, who said a weak dollar was contributing to import price inflation.

"Policy makers are more focused on inflation than growth at the moment, and that is dollar supportive," said Shaun Osborne, chief currency strategist at TD Securities in Toronto.

On Friday, a government report showing soaring gasoline and energy costs had driven up consumer prices last month at their fastest rate since November bolstered that view.

Ken Landon, global currency strategist at JP Morgan Chase in New York, said the data "supports the recent expectations that the Federal Reserve is going to hike rates. Big picture, this supports a strong dollar."

U.S. short-term interest rate futures were pricing in three quarter-percentage point rate hikes from the Fed by year end.

The Irish "no" vote on the Lisbon Treaty "does not help" the euro, BNP Paribas strategists said, because "it will slow political integration further."

The dollar also hit a near-four month high of 108.38 yen before paring gains to trade at 108.20 yen. For the week, the dollar is up 3.2 percent against the yen, poised for its biggest weekly gain in more than four years.

The Bank of Japan kept interest rates steady at 0.5 percent on Friday, as widely expected.

EYES ON G8

Dollar momentum could be boosted further if U.S. Treasury Secretary Henry Paulson and other finance ministers attending a weekend Group of Eight finance ministers meeting in Japan issue dollar-supportive comments.

The euro took an early hit on Friday after French Economy Minister Christine Lagarde said on arriving in Japan that the recent strengthening of the dollar was "satisfying."

While analysts don't expect new language about the dollar to end up in the meeting's closing communique, it could still grab headlines at a gathering expected to focus on commodity price gains and their threat to global growth.

A recent International Monetary Fund study said gold and oil prices rise by more than 1 percent for every 1 percent decline in the dollar.

Even though central bankers will not be on hand at the G8 meeting in Osaka, "the market really can't afford to be long euros going into it," said Alan Ruskin, chief international strategist at RBS Greenwich Capital in Greenwich, Connecticut.

But he said dollar selling could re-emerge next week, particularly if the G8 meeting passes without incident and investors start refocusing on sluggish U.S. growth.

The Reuters/University of Michigan Surveys of Consumers, on Friday showed U.S. consumer confidence tumbled more than expected in June, hitting another 28-year low.

Strategists at UBS said they still expect U.S. manufacturing output to weaken and housing prices to keep declining, putting a strain on consumers and overall growth.

"These are reasons to be cautious on the dollar in the near term," they wrote in a note to clients on Friday.

(Additional reporting by Nick Olivari and Gertrude Chavez-Dreyfuss in New York and Eric Burroughs in Tokyo, Editing by Chizu Nomiyama)

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