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Saturday July 12, 2008 - 11:28:30 GMT
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FOREX NEWS-Dollar falls as credit woes cut Fed rate hike chances

Fri Jul 11, 2008 4:38pm EDT

* Dollar falls as credit fears further darken market mood

* Euro rises to 2-1/2-month high vs dollar

* U.S. lawmaker raises hopes on discount window option (Recasts, updates prices, changes byline)

By Lucia Mutikani

NEW YORK, July 11 (Reuters) - The dollar fell broadly on Friday as persistent worries about the stability of two U.S. mortgage finance giants were seen constraining the Federal Reserve's ability to raise interest rates this year.

The greenback briefly got some support versus the yen, however, after a source told Reuters Fed Chairman Ben Bernanke had said embattled mortgage finance houses Freddie Mac (FRE.N: Quote, Profile, Research, Stock Buzz) and Fannie Mae (FNM.N: Quote, Profile, Research, Stock Buzz) would qualify for discount window borrowing.

But a Fed spokeswoman later said the U.S. central bank had had no discussions with the two government-sponsored firms about access to that emergency lending facility.

Separately, a senior U.S. lawmaker said the Fed and the Treasury Department were considering opening the discount window.

"Ongoing concerns about the fragility of Fannie Mae and Freddie Mac have again underscored the likely inability of the Federal Reserve to raise rates any time soon," said Shankar Samarjit, global FX strategist at Bank of New York Mellon in Boston.

The <EUR=> vaulted to $1.5946, the highest since April 23, according to Reuters data. It last traded at $1.5932, up 0.9 percent on the day. The dollar dropped as low as 105.67 <JPY=>, but later pushed back to around 106.21 yen, down 0.8 percent.


"The credit turmoil is a reflection of how bad things are and there is a risk that interest rates will go down and not up," said Benedikt Germanier, chief currency strategist at UBS in Stamford, Connecticut.

"When we look at the OIS (the overnight index swap) market, which is a good predictor of rate expectations, for December it's pricing in one hike by the Fed. That is down from three hikes back on June 17. That's helping the dollar to decline here."

The dollar's depreciation has been largely driven by interest rate expectations and differentials between the United States and the euro zone.

The New York Board of Trade's dollar index, which measures the dollar's performance against a basket of six currencies, dropped to a 2-1/2-month low at 71.795 .DXY, posting its largest daily fall in more than a month.

Analysts said that while the market had been disappointed after Treasury Secretary Henry Paulson did not hint at a bailout of Fannie Mae and Freddie Mac, a takeover would prove dollar-negative if this led to a transfer of debt to the government's books.

"When you have GSEs being nationalized, that would mean that the bad credit the GSEs have would then be translated into U.S. Treasuries, which would be a risk to sovereign issue. There is no other reason why euro/dollar jumped," said Germanier of UBS.

"At the same time you saw sovereign credit tightening. That is why the dollar traded lower in sync with the Treasury market, which also traded softer despite the fall in equities."

Paulson said on Friday his aim at present is to back Fannie Mae and Freddie Mac in their "current form".

A surge in oil prices CLc1 to record highs and global as well as U.S. stock market losses also did not help the dollar. High energy prices hurt the dollar because the United States is a heavy oil consumer.

U.S. crude oil futures rose sharply, ending at a settlement price above $145 a barrel after jumping to a record above $147 intraday. (Additional reporting by Gertrude Chavez-Dreyfuss; Editing by James Dalgleish)

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