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Monday August 21, 2006 - 10:28:45 GMT
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FOREX-Euro hits record high vs yen, dollar flounders

FOREX-Euro hits record high vs yen, dollar flounders
Mon Aug 21, 2006 6:00am ET165

(Updates prices, adds fresh quotes, changes byline)

By Carolyn Cohn

LONDON, Aug 21 (Reuters) - The euro extended recent gains to hit a record high against the yen on Monday on expectations of a widening interest rate gap between the euro zone and Japan, while weak U.S. data weighed on the dollar.

The European Central Bank raised interest rates to 3 percent earlier this month and signalled more rate hikes are on the cards, with the market expecting one or two more this year.

Meanwhile, the Bank of Japan has stressed that it will take its time raising rates, after lifting them to 0.25 percent last month, the first rise in six years. The dollar approached two-month lows against the euro as data on Friday showing a fall in U.S. consumer sentiment boosted the view the Federal Reserve might leave interest rates unchanged again next month.

"A shift in expectations for rate differentials is driving the euro. The market is pricing in a hawkish ECB. Carry is in vogue again in this environment of low risk (aversion)," said Benedikt Germanier, currency strategist at UBS in Zurich.

"Inflation expectations are rising globally. The Fed is able to pause as it has a mandate for growth and price stability. The ECB cannot, as it is an old monetarist with focus on price stability."

By 0950 GMT, the euro had risen as high as 149.15 yen , according to Reuters data, up 0.4 percent on the day and its highest since the single currency was launched in 1999. The euro has climbed 1.5 percent against the yen in August.

The euro rose to $1.2906 , a one-week high and within a few ticks of setting two-month highs, before easing to $1.2890. The dollar was down 0.2 percent at 115.55 yen , and had fallen 0.8 percent to 1.2230 Swiss francs .

The euro zone's foreign trade swung to a 2.0 billion euro surplus in June from a 3.2 billion euro deficit in May, data showed on Monday. Markets are looking ahead to Germany's ZEW economic sentiment index for August on Tuesday and the Ifo business survey for August on Thursday.

The yen was also under pressure due to rising oil prices, after Iran said on Sunday it would not suspend uranium enrichment. Iran says it will formally respond by Tuesday to proposals made by the U.S., Russia, China, France, Britain and Germany.

Japan imports all of its oil.

"The dollar has not sold off as much against the yen, linked to oil prices and the Iran deadline," said Peter Frank, senior FX strategist at ABN Amro.


The University of Michigan's index of consumer sentiment on Friday showed a greater than expected drop in August, registering its lowest reading since the aftermath of Hurricane Katrina in 2005.

The Fed left interest rates unchanged at 5.25 percent this month after tightening at 17 consecutive policy meetings over two years.

Investors are awaiting a speech on Friday by Fed Chairman Ben Bernanke.

"Should Bernanke reaffirm a sense of pause, market expectations that rates will hold steady in September will increase and the related market repricing should weigh, at least modestly, on the dollar," JP Morgan said in a note to clients.

Elsewhere, a rate rise by China on Friday increased expectations that the central bank would allow for a stronger yuan, boosting the Chinese currency to 7.9641 per dollar on Monday, its highest since the July 2005 revaluation.

© Reuters 2006. All Rights Reserved.


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