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Wednesday May 10, 2006 - 10:40:32 GMT
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FOREX-Dollar crumbles before Fed, rate view boosts yen

FOREX-Dollar crumbles before Fed, rate view boosts yen
Wed May 10, 2006 6:31 AM ET

(Updates prices, adds fresh quotes, changes byline)

By Carolyn Cohn

LONDON, May 10 (Reuters) - The dollar fell to one-year lows against European currencies on Wednesday as investors speculated about a pause in U.S. rate rises, while talk of higher Japanese interest rates boosted the yen.

The U.S. Federal Reserve is widely expected to raise overnight rates by 25 basis points for the 16th straight time at its meeting on Wednesday, taking the key rate to 5 percent. But markets are nervous that the central bank will indicate a pause in its two-year tightening campaign.

The U.S. currency was also under pressure ahead of the release of a U.S. Treasury currency report on Wednesday as markets speculated about whether the Treasury will name China as a currency manipulator.

The yen hit an 8-month peak against the dollar and 6-week high against the euro on speculation that the Bank of Japan could start raising overnight rates as soon as June.

Sources close to the Bank of Japan said it was likely to use stronger wording to describe the improving economic outlook in its monthly report next week.

"It's just a broad-based dollar sell-off...The market's now really focused on what the Fed will say at the FOMC meeting and also the Treasury FX report," said Kamal Sharma, currency strategist at Bank of America.

"It just highlights the vulnerability and fragility of dollar sentiment in an environment where the market is not only focusing on the cyclical factors of interest rate expectations but also on the whole structural story about global imbalances, which are both dollar-negative at the moment," he added.

By 1010 GMT, the euro was up slightly on the day at $1.2784 , having hit a one-year high of $1.2804 earlier.

The dollar also fell to one-year lows against sterling , the Swiss franc and an index of currencies <=USD>, before recovering slightly.


The dollar was down half a percent against the yen near an 8-month low of 110.42 , with the euro off a quarter percent against the Japanese unit near a 6-week low of 141.15 .

"In the last day or two, the market focus has shifted to the interest rate story in Tokyo, and that is reinforcing the weak dollar story," said Derek Halpenny, currency economist at BOTM-UFJ.

Japanese Finance Minister Sadakazu Tanigaki said after the sharp dollar losses that he wasn't in favour of sharp moves in currency rates and that a G7 statement on global imbalances last month did not allude to a need for the dollar to fall.

The dollar needs to decline but Japan should not intervene, Harvard economics professor Martin Feldstein said in an interview with Japanese financial newspaper Nikkei on Wednesday. Feldstein is seen by markets as a possible successor to U.S. Treasury Secretary John Snow.

Broad-based dollar weakness was also reflected in safe-haven gold, which hit a 25-year high above $700 an ounce .

Sterling fell against the dollar and euro after the Bank of England lowered its growth profile in its quarterly inflation report. Sterling earlier rose after data showing the British March trade deficit narrowed sharply.

The U.S. Federal Open Market Comittee is expected to make its interest rate decision around 1815 GMT.


The market was waiting for a U.S. Treasury report on currency practices of the United States' trading partners, due at 2000 GMT, with particular interest focused on whether China would be singled out as a currency manipulator.

Some traders said Washington could stop short of naming China in its report on currency practices.

"They are not going to call China a currency manipulator, that would be the worst-case scenario," a London-based trader.

Some analysts speculated that China would not be named partly out of a desire to avoid ruffling efforts to curb Iran's nuclear ambitions, in which Beijing is seen as a key negotiator with Tehran.

U.S. Treasury Undersecretary Randal Quarles declined to comment late on Tuesday on whether China would be named in the report.

The yuan rose against the dollar on Wednesday ahead of the report.


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