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Tuesday October 21, 2008 - 09:38:08 GMT
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FOREX NEWS-Dlr firm as demand for cash outweighs fundamentals

Tue Oct 21, 2008 4:38am EDT

* Dlr index near 16-month high, euro/dlr at 1-1/2 yr low

* Yen up in reflection of underlying financial market stress

* Banks funding demand still dollar-supportive

* Investors start to look beyond money market jam

(Releads, changes dateline, byline, adds quotes, update prices PVS TOKYO)

By Veronica Brown

LONDON, Oct 21 (Reuters) - The dollar hit its highest in 1-1/2 years versus the euro on Tuesday and held near 16-month highs against a basket of currencies fuelled by ongoing demand from banks picking up the U.S. unit for their funding needs.

Comments from Federal Reserve Chairman Ben Bernanke on Monday also helped the dollar find favour as he endorsed further government spending aimed at stimulating the flagging U.S. economy.

By contrast, the euro is being left on the defensive with a perception of the single currency zone having scope for aggressive monetary easing biting hard, as the global economic outlook dims further.

Yen strength also reflected underlying nerves on the global economy's prognosis as investors' concerns start to move beyond money markets and onto the real economy.

While jammed-up interbank lending has loosened in recent days -- a backdrop of overall tight credit conditions and a bear market in global shares has lifted dollar and yen demand as investors continue unloading highly-leveraged positions.

"There's more hopeful signs that we're getting interbank money rates coming down, but to translate that into the FX market it's not going to result in a notable turnaround in the appetite for deleveraging and reducing risk," said Derek Halpenny, European head of global FX research at BTM-UFJ in London.

"Also you have to make the argument that countries that are being a little bit more proactive in trying to offset the negative macro economic consequences that are coming are being rewarded to a degree in the FX market," he added.

The dollar index, which measures the U.S. currency's value against a basket of six currencies, firmed to 83.139 .DXY, near a 16-month high of 83.230 hit on Monday, according to Reuters data.

Asia-based traders cited some speculation overnight that market players needed more dollars to settle credit derivatives tied to the bankruptcy of Lehman Brothers.

The euro hit its lowest since March 2007 at $1.3237 before paring losses slightly to stand at $1.3253 by 0825 GMT, down 0.7 percent on the day.

The dollar fell 0.7 percent against the yen to 101.18 yen, <JPY=> slipping from an earlier high of 102.16 yen, with traders expecting the pair to stay in a 101.50-102.50 yen band on Tuesday. The euro dropped 1.4 percent to 133.95 yen <EURJPY=>.


As financial markets regain some poise, analysts said that fears on the initial impact of the credit crisis were starting to give way to economic fundamentals and monetary policy.

The Fed's Bernanke on Monday said the economy was expected to be weak for several quarters and there was some risk of a protracted slowdown. [ID:nN20254868].

Fed policymakers meet next week, and economists and investors widely expect another rate cut from the current 1.5 percent after leading global central banks recently acted in concert to cut borrowing costs.

"Central banks will at least take heart from the ongoing drop in Libor spreads over their policy rates that monetary policy may once again be able to influence the real economy," Calyon strategists said in a note to clients.

The high-yielding Australian dollar fell 2.75 percent against the U.S. dollar <AUD=> on expectations for further policy easing from the Reserve Bank of Australia.

RBA minutes from its meeting earlier this month indicated there was more room for rate cuts, though not as aggressive as this month's 100 basis point cut. [ID:nSYD393834]

(Reporting by Veronica Brown; Editing by Victoria Main)

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