The euro fell broadly on Thursday after the European Central Bank cut interest rates by half a percentage point, disappointing investors who thought sluggish economic growth called for a more aggressive move. The ECB's decision to reduce borrowing costs to 3.25 percent was a relatively small step compared to the Bank of England's surprise decision to slash UK rates by 1.5 points to their lowest in more than half a century.
While rate cuts typically weaken a currency's appeal, analysts said fear of a prolonged recession means investors are rewarding proactive central banks for efforts to boost growth.
Sterling initially rose on the BoE news and the euro came off session lows when ECB President Jean-Claude Trichet said he did not preclude further rate cuts, though investors said the ECB still looks dangerously behind the curve.
"If you believe that currencies whose central banks are proactive in targeting a stronger growth policy by cutting rates aggressively will outperform over the medium term, as I do, then one cannot like the prospects of the euro over the short term," said Dustin Reid, senior FX strategist at RBS Global Banking and Markets in Chicago.
Late afternoon, the euro was down 1.8 percent at $1.2710 aand 2.7 percent at 124.21 yen. The pound shed 1.8 percent to $1.5629 after the BoE's surprisingly large rate reduction. Markets had expected the BoE to reduce rates to boost a weakening British economy, but the most aggressive speculation was for a one-point cut.
The Swiss National Bank also surprised investors with an unscheduled rate cut, lowering them by half a point. The dollar rose 1.6 percent to 1.1775 Swiss francs, though it fell 0.9 percent to 97.67 yen as risk-averse investors continued to exit trades of higher-yielding assets financed with the Japanese currency.
That unwinding continued to weigh on US stocks, with the Dow falling sharply for a second straight day, as investors worried about the outlook for the global economy. The International Monetary Fund said Thursday that developed countries' economies would contract next year for the first time since World War II.
Investors expect data on Friday to show US employers slashed jobs for a 10th straight month in October. The consensus estimate of economists polled by Reuters was for US non-farm payrolls to plunge 200,000 after falling 159,000 in September.
A worsening US economic outlook and a growing credit crisis prompted the Federal Reserve to start cutting its benchmark interest rate in late 2007 and last week it took it down to 1 percent. The ECB has moved more slowly and even raised rates in July before delivering two half-point cuts in recent weeks to bring borrowing costs down to 3.25 percent. Analysts said the preference for proactive monetary policy and continued risk reduction among investors would likely keep weighing on the euro and boosting the dollar and yen.