The dollar stayed near a 5-1/2-month high against a basket of currencies on Friday, helped by doubts over just how long the U.S. Federal Reserve will keep its quantitative easing in place.
The dollar's gains came as the euro tumbled to a six-week low against it and a three-week trough against the yen, on disappointing euro zone economic data and uncertainty ahead of Italy's election this weekend. The dollar index, which measures its value against a basket of six major currencies, stood at 81.300 , having risen past its Nov. 16 peak to 81.508 on Thursday, its highest level since Sept. 5. Minutes of the Federal Reserve's last meeting, released on Wednesday, and comments from the bank's two top officials on Thursday showed growing internal debate about scaling back its bond buying programme.
Concerns that the Fed may stop providing a flood of cash to banks boosted the dollar, at the expense of many other assets, ranging from the euro and other risk currencies to stocks and commodities. The euro fell to a six-week low of $1.31615 on Thursday and last stood at $1.3199, near late U.S. levels. Business activity indexes dealt a blow to hopes that the euro zone might emerge from recession soon, showing the downturn across the region's businesses unexpectedly worsened this month. The data raised nervousness ahead of an influential German Ifo business sentiment index due at 0900 GMT.
"After the euro's fall yesterday, we should be wary of risk that weak Ifo figures cement concerns on the euro zone economy. Given that the euro had been outperforming since late last year, its correction could be large," said Junya Tanase, chief FX strategist at JPMorgan Chase Bank.
In addition, the anxiety that Italy's national election this weekend could lead to a fragmented parliament and a weak government capped the euro. But some market players think the euro is more likely to see a relief rally after the election, expecting Pier Luigi Bersani's centre-left bloc will ally with a centrist group led by Prime Minister Mario Monti to form a stable government.
"The euro is capped now ahead of the Italian election but once that uncertainty will have been cleared, the euro is likely to rebound," said Kyosuke Suzuki, director of foreign exchange at Societe Generale. The currency is now trying to cling to an important chart point of $1.3186, a 50 percent retracement of its 10.5-cent rally from November to February. Below that is another major support from its 90-day moving average, at $1.3135, though a break there will leave it open for a test of the Jan. 10 low of around $1.3040.
Against the yen, the euro fell to 122.25 yen, its weakest level since late January. It traded at 123.05 yen in early Asian trade, up slightly from late U.S. levels.
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While the dollar gained across the board, the U.S. currency failed to advance against the yen ash the Japanese currency's three-month-old decline on monetary easing expectations is showing signs of losing momentum. The dollar stood flat in early Asian trade to fetch 93.13 yen, keeping some distance from its 33-month high of 94.47 hit last week.
"Judging from recent comments, most Japanese ministers don't really wish to push the dollar/yen up beyond 95 yen. I suspect if the yen weakens further, (Finance Minister Taro) Aso will try to rein in the yen's fall," said Minori Uchida, chief strategist at the Bank of Tokyo-Mitsubishi UFJ.
The yen looks set to post its first substantial weekly gain since mid-November, when the announcement of a Japanese election spurred investors to bet more political pressure would be put on the Bank of Japan to take bold easing steps.
Speculators turned their gaze to the British pound, which has fallen 1.7 percent so far this week, hitting a 2 1/2-year low of $1.5130 on Thursday, on expectations of more quantitative easing by the Bank of England. Sterling has recovered a little to last trade at $1.5254 but it is still seen as vulnerable. The Canadian dollar flirted with a seven-month low versus the U.S. unit hit on Thursday, trading at C$1.0173 per U.S dollar, near Thursday's low of C$1.0208.
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