The dollar drifted within striking distance of a 13-month high against the euro on Tuesday as the market stayed focused on the US currency's widening interest rate advantage over its rivals. The dollar was still basking in the glow of upbeat data last week that helped cement the case for more Federal Reserve interest rate rises, just days after the Fed lifted rates to 3.25 percent and suggested more tightening was in store.
"The interest rate differential story isn't going to go away in a hurry," said Hideaki Furumaya, forex manager at Trust & Custody Services Bank in Tokyo.
"The dollar will stay well supported until the Fed gives reason to believe it will stop hiking rates," he said.
Although the European Central Bank is expected to keep interest rates at 2 percent on Thursday, market speculation of a possible cut in the near- to mid-term has heated up, putting even more pressure on the euro.
"There's been a lot of talk in the market about a rate cut by the ECB, and if this does happen, the euro will be pushed lower," said Kikuko Takeda, currency analyst at Bank of Tokyo-Mitsubishi.
Despite such talk, ECB President Jean-Claude Trichet on Monday rejected suggestions that the central bank should risk a little more inflation by cutting rates to recharge growth in the euro zone.
Market players shrugged off Japan's Prime Minister Junichiro Koizumi winning a key parliamentary vote on postal privatisation, the centrepiece of his reform agenda. A rejection would have raised the possibility of a snap election.
The dollar bought 111.80 yen, up slightly on the session and near an 11-month high. The euro inched down to $1.1900 after falling as far as $1.1889 in London trade, its lowest level since late May 2004. US markets were closed on Monday for the Independence Day holiday.
The single currency, already battered by concerns about slowing economic growth and political instability, fell in London trade after ECB Governing Council member Christian Noyer said it was possible for a euro country to abandon the single currency.
Sterling traded around $1.7580 after skidding to a 14-month low of $1.7569 on Monday. Market participants have shunned the pound on expectations the Bank of England will also lower interest rates in the near future.
While the BoE is expected to keep rates at 4.75 percent on Thursday, a Reuters poll of 45 economists showed that a majority of respondents see the central bank moving into rate-cutting mode between August and November.
The market was also awaiting a summit meeting of leaders of the Group of Eight industrialised nations, which kicks off on Wednesday in Scotland and is expected to address the yuan's revaluation.
Any hints that China could soon move to loosen the yuan's tight peg to the dollar could support the yen, which many traders tend to buy as a proxy for any eventual appreciation in the Chinese currency.
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