Euro Strengthens Amid Speculation EU Plan to Fight Debt Crisis May Succeed

By Paul Dobson and Yoshiaki Nohara - Jan 18, 2011 8:12 PM GMT+0800

The euro rose against the dollar for the sixth day in the past seven amid speculation efforts by the region’s policy makers to prevent the sovereign-debt crisis from deepening will succeed.

The single currency and the British pound appreciated, sending the Dollar Index to its lowest level since November, amid speculation European central banks will be quicker to increase borrowing costs than the Federal Reserve. The yuan rose to a 17-year high against the dollar before Chinese President Hu Jintao meets with President Barack Obama tomorrow inWashington.

“The euro’s strength is based partly on the perception of a reduction in risk,” said Steve Barrow, head of research for Group of 10 currencies at Standard Bank Plc in London. “Markets are pricing in more of a hike, and it’s something that has given euro-dollar a lift.”

The euro advanced 0.8 percent to $1.3405 as of 7:08 a.m. in New York and strengthened 0.7 percent to 110.65 yen. The dollar slipped 0.2 percent to 82.55 yen and the Dollar Index slid 0.7 percent to 78.825.

Europe’s shared currency approached a five-week high against the dollar after euro-area finance ministers pledged to strengthen the region’s safety net for indebted nations following a meeting yesterday. Spain’s borrowing costs fell at a sale of 5.5 billion euros in short-term bills today after the nation yesterday offered 6 billion euros of 10-year government bonds through banks.

Stocks, Confidence Rise

The Stoxx Europe 600 Index of shares climbed as much as 1.1 percent to the highest level since Sept. 3, 2008. German investor confidence, as measured by a ZEW Center for European Economic Research index, jumped to a six-month high in January, rising to 15.4 from 4.3 the previous month and exceeding the median estimate of economists surveyed by Bloomberg for an increase to 7.

“The euro zone’s crisis-management policies are reasonably effective,” said Simon Derrick, chief currency strategist at Bank of New York Mellon Corp. in London. “The relatively healthy Spanish bond sale is again a measure of the fact that people think the euro zone is getting its act together.”

The difference in yield between two-year German notes and similar-maturity U.S. securities increased three basis points to 0.59 percentage point the widest since Nov. 19. The yield spread between U.K. and U.S. notes reached 0.81 percentage point, the most since January 2009.

British Inflation

The pound surged to an almost two-month high today as U.K. statistics showed December consumer price inflation accelerated by 3.7 percent, surpassing the 3.4 percent forecast in a Bloomberg survey. Sterling appreciated 0.7 percent against the dollar to $1.5996. It weakened 0.3 percent versus the euro to trade at 83.89 pence.

The three most accurate strategists for the pound expect it to decline as Prime Minister David Cameron’s budget cuts slow growth while the rising inflation limits the Bank of England’s ability to spur the world’s sixth-largest economy.

“Tightening policy to rein in inflation in a weak-growth environment would be a double whammy against the pound,” said Lee Hardman, a strategist at Bank of Tokyo-Mitsubishi UFJ Ltd. in London. “Rate hikes are currency supportive only if they’re consistent with stronger economic growth.”

Sweden’s krona and the Swiss franc also appreciated versus the dollar as signs the U.S. home market remains weak added to speculation the Fed will keep interest rates on hold.

Housing Starts

U.S. housing starts likely dropped 0.9 percent to a 550,000 annual rate last month, according to a Bloomberg News survey before the Commerce Department report tomorrow. Existing home sales rose to 4.86 million, after falling in July to the lowest in a decade’s worth of record keeping, a separate Bloomberg survey showed ahead of the Jan. 20 report.

“Weak housing data indicate the Fed is still far from an exit,” said Daisuke Karakama, a market economist in Tokyo at Mizuho Corporate Bank Ltd., Japan’s second-largest publicly traded lender. “The bias is for the dollar to be sold against the yen.”

The Dollar Index, which tracks the greenback against the currencies of six major U.S. trading partners including the euro, yen and pound, touched 78.686, the least since Nov. 22.

There’s an almost 60 percent chance U.S. policy makers will keep the benchmark rate unchanged or lower it by December, according to futures on the Chicago Board of Trade. The probability was 40 percent a month ago. The central bank rate has been at a range of zero to 0.25 percent since December 2008.

Moving the Yuan

China’s central bank set its daily fixing for the exchange rate against the dollar at the strongest level since a peg ended in 2005, after a bipartisan group of U.S. Senators said yesterday they will pass legislation this year to push China to strengthen the currency.

“China wants to be seen as moving the currency in the right direction as Hu meets with Obama, but without giving into international pressure,” said Brian Jackson, Hong Kong-based senior strategist at Royal Bank of Canada.

The yuan hit 6.5824 per dollar today, the strongest level since China unified official and market exchange rates at the end of 1993. It closed 0.15 percent stronger at 6.5829 in Shanghai, according to the China Foreign Exchange Trade System.

Canada’s dollar appreciated against its U.S. counterpart for a second day, reaching the strongest level since May 2008. Bank of Canada policy makers will probably decide to keep the benchmark interest rate at 1 percent today, according to all 32 economists surveyed by Bloomberg. The Canadian dollar strengthened 0.3 percent to 98.46 cents.

To contact the reporters on this story: Paul Dobson in London at pdobson2@bloomberg.net. Yoshiaki Nohara in Tokyo at ynohara1@bloomberg.net.

To contact the editor responsible for this story: Daniel Tilles at dtilles@bloomberg.net.