The dollar hit a three-year low on the yen on Tuesday and slid versus the euro after a top US official fanned the view G7 ministers would offer the greenback little help and the poison ricin was found in US Senate mail.
Analysts said with expectations building the Group of Seven finance ministers would make no effort to halt the dollar's longer term decline at their meeting on Friday, the ricin discovery also rekindled concerns about attacks in the United States which had dogged the dollar after September 11, 2001.
US Treasury Under-secretary John Taylor said late on Monday while he expected some discussion on currencies as always, an agenda for growth launched at last September's G7 meeting would be the centre-piece of this week's gathering.
"People are beginning to realise that there won't be much coming out of the G7 that will change the dollar's weak trend," Marvin Barth, global currency economist at Citibank in London. "The US has made it clear as long as the dollar's decline is orderly, it is beneficial all round by helping disinflation and current account problems."
By 0906 GMT the euro had stormed one percent higher on the day to $1.2568 before settling around $1.2545. It hit a record peak just below $1.29 in January.
"The ricin and the (US) budget announcement got the euro/dollar moving higher. The dollar was due another move lower and this was the straw that broke the camel's back," said Aziz McMahon, currency strategist at ABN Amro.
The dollar slid to 105.32 yen, its lowest in three years but only slightly down from Monday's closing levels. The greenback also fell one percent on the Swiss franc and three-quarters of a percent against the British pound.
The White House released its economic forecasts on Monday and expected a budget deficit at $521 billion in fiscal year 2004, fuelling negative dollar sentiment as it reminded the market of another key driver of dollar weakness.
Uppermost in the market's mind is the meeting of G7 finance ministers and central bankers in Florida, which runs until Saturday. The dollar has been under pressure over concerns about the US current account deficit and the perception Washington is comfortable with a weaker currency.
Japanese Finance Minister Sadakazu Tanigaki echoed Taylor saying on Tuesday that macro-economy and structural issues would have most weight in the talks, although he added: "The issue of foreign exchange will not be neglected by the G7."
In the euro zone, only European Central Bank council member Ernst Welteke is scheduled to speak later on Tuesday, so the market may have to wait for the bank's policy meeting and news conference on Thursday for its latest position on euro strength. The euro has gained roughly 40 percent on the dollar in the past two years.
US Treasury Secretary John Snow testifies on the 2005 budget at 1500 GMT.
While the dollar fell steeply against European currencies on Tuesday, the threat of Japanese intervention helped limit its losses against the yen.
Japan spent 7.15 trillion yen ($67.8 billion) in the currency market in January - a record monthly figure, on top of an annual record of 20 trillion yen in 2003 - to stem the yen's rise. The Bank of Japan was suspected of intervening in the market on Monday.
Traders said however the absence of a G7 warning against the dollar's decline could be taken as a green light to sell the currency and a fall beyond 105 yen could trigger an even sharper decline given the huge amount of option positions lined up there.
"There are many option triggers below 105 yen because people thought in the past that that level would be protected," said Kota Kimura, assistant manager at Shinkin Central Bank in Tokyo.
"So a break through that level could cause a sharp fall in the dollar."
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