Euro lower on interest rate speculation

Euro

The dollar fell broadly at the start of the week, hit by a combination of heightened security concerns and equity market weakness.

News that Israel killed the spiritual leader of the Hamas militant group added to recent security concerns. Hundreds of thousands of Palestinians marched in Gaza shouting for revenge after Israel killed Hamas spiritual leader Sheikh Ahmed Yassin as he left a mosque in Israel's highest profile assassination in more than three years of conflict.

Mid week, euro sentiment took a hit after the European Central Bank said money flowed out of the eurozone in January at nearly double the average pace of last six months, with outflows of direct and portfolio investment totalling 22.4 billion euros in January.

The strong outflows came as the eurozone posted a net current account deficit in January of 5.3 billion euros, versus the surplus in December. The euro continued to spiral lower after comments by ECB officials raised speculation of a possible interest rate cut in the eurozone.

To start, the ECB President Jean Claude Trichet told German business newspaper that the ECB would reassess its outlook for gradual eurozone recovery if consumer spending fails to pick up. His comments along with those of other officials, increased market speculation that the ECB could cut interest rates, perhaps as soon as April 1.

ECB council member Guy Quaden said the bank has some room for manoeuvre if needed, even though its official 2 percent rate is "extremely low". The final day once again witnessed the dollar rally against the euro amid mixed U.S. economic data.

A U.S. consumer sentiment survey came in stronger than expected, a dollar positive that was balanced by the negative influence of another report showing consumer consumption lower than expected.

As for the euro, pre-weekend positioning and a short-cover rally outweighed the negative impact of interest rate cut speculation ahead of next-week's ECB meeting. The euro slipped after Deutsche Bank revised its forecast on interest rates, saying it expects a cut of 25 basis points within the next three ECB policy-setting meetings instead of no change in rates until the third quarter of 2005.

Meanwhile, German Ifo business climate index fell more than expected in March, prompting the think-tank's President Hans-Werner Sinn, to call for an immediate cut in European interest rates. The euro ended this week's trading session at $1.2135, after having tested a fresh three-week low of $1.2074.

Investor attention next week will centre the ECB's interest rate decision on April 1 before turning to U.S employment figures on Friday. After months of falling short of expectations, U.S. non-farm payrolls are expected to have risen by 100,000 in March. The unemployment rate is expected to hold steady at 5.6 percent.

Range for the week: $1.1900 - $1.2400.

Japanese Yen

The yen powered higher across the board on more confidence about Japan's economy, contrasting with a dim outlook in the eurozone that had investors betting the ECB would cut interest rates.

Optimism over Japan's recovery got another boost after international ratings agency Standard & Poor's revised up its outlook on the economy to stable from negative.

The yen broke above the psychologically important 106 yen level, rising to a five-week high of 105.56 per dollar. The yen also got a boost from better-than-expected Japanese trade balance data for February, with the surplus rising 51.7 percent from a year earlier.

Traders said Japanese intervention was almost the only factor dampening the yen. Market sources said that Japanese authorities, acting through the Bank of Japan, were suspected of intervening intermittently in the foreign exchange market, selling the yen and buying dollars.

Japan's top financial diplomat, Zembei Mizoguchi, warned again that Tokyo's foreign exchange policy was unchanged and in line with a stance agreed by the G7 finance ministers.

The yen continued its move upwards after data showed spending by the Japanese households rose for the fourth consecutive month in February and retail sales were also higher, suggesting Japan's export-led recovery might be trickling down to consumers.

In the coming week, Japan's tankan survey, which is expected to show that business sentiment in the world's second largest economy is gradually improving, will be of importance.

Range for the week: 104.00 - 109.00

Sterling

Sterling fell to a new one-week low of 1.7993 against the dollar, after Bank of England Governor Mervyn King pointed to the risk on UK growth from a strong pound.

A survey by the Confederation of British Industry showing UK factory order books improved for the fifth consecutive month in March to their best showing in three years offered little help as King's comments prompted investors to scale back expectations that UK interest rates are going to rise aggressively.

However, the trend soon reversed course and the pound gained momentum against the greenback on the back of a narrower than expected UK current account deficit, which helped offset concerns over currency strength raised by the Bank of England.

Sterling shot half a cent higher on the dollar in the immediate wake of news the fourth quarter current account deficit narrowed to 5.228 billion pounds from a downwardly revised third quarter shortfall of 6.28 billion.

Range for the week: $1.7800 -$1.8300.