NEWS / Foreign Exchange

FOREX-Dollar steadies but outlook vulnerable as Fed looms

(adds quotes, updates prices)

By Veronica Brown

LONDON, May 9 - The dollar steadied against other major currencies on Tuesday but the outlook remained shaky as investors awaited the U.S. Federal Reserve's rate decision on Wednesday and a key report to see if China would be named a currency manipulator.

The greenback saw short-covering after hitting one-year lows on Monday against the euro, sterling and Swiss franc, but sentiment has been undermined by expectations that its interest rate advantage is set to narrow.

The Fed is widely expected to lift its funds rates for the 16th time to 5 percent from 4.75 percent.

But investors are uncertain about the Fed's action beyond that and are eager to see if the central bank's post-meeting statement signals a pause in the tightening cycle.

"It's not the Fed's action tomorrow but their indication for forward rates that will be the key criteria," said Lena Komileva, G7 market economist at Tullet Prebon.

"But the Fed is no longer in a good position to offer a lot of transparency to markets -- the risks to growth and inflation, now that policy is no longer stimulative... are dangerous," she added.

The market is also focusing on a U.S. Treasury report on the currency practices of trading partners due on Wednesday, with some analysts speculating that the government might name China as a currency manipulator.

Analysts said such action by the United States, which would put pressure on China to let its currency appreciate, could trigger further gains in the yen which is often treated as a proxy for the yuan.

Goldman Sachs said the risk China will be named as a currency manipulator has risen to almost 50:50 and expects yuan appreciation in the coming weeks.

But some said it was unlikely China would be named.

"Our view is that the Treasury report may be marginally dollar-positive in the short-term given that its unlikely that they will name China as a manipulator," Westpac currency strategist Geoff Kendrick said.

By 1150 GMT, the euro <EUR=> was a touch softer on the day at $1.2689, after hitting a one-year high of $1.2787 on Monday.

The euro was little moved by weaker-than-expected German industrial output data.

The dollar was down 0.2 percent at 111.46 yen after hitting an intraday trough of 111.23 yen <JPY=> overnight in Asian trade -- near an eight-month low of 110.97 yen hit on Monday.

It was steady against sterling at $1.8565 <GBP=>.

YEN BOOSTED

The yen hit a six-week high against the euro after a media report stoked expectations the Bank of Japan will raise interest rates as soon as July.

Jiji Press news agency reported that the BOJ would upgrade its description of the economy, replacing the word "recovery" with "expansion" in its upcoming monthly assessment, driving the yen higher across the board.

Such a change would be the first since 1991 and underscores that the central bank is moving closer to raising short-term interest rates for the first time in six years.

The euro stood at 141.52 yen <EURJPY=> after falling as low as 141.24, its weakest since late March.

The yen also gained ground against the New Zealand dollar <NZDJPY=R> and the Kiwi was the biggest loser against the U.S. dollar -- falling more than one percent on the day at one point beyond $0.6250 <NZD=>.

Analysts cited continuing pressure on commodity currencies and the prospect of a diminishing rate advantage over the yen.

The yen has surged overall since the Group of Seven economic powers last month called for countries with trade surpluses to allow more currency appreciation, singling out China and Asia.

Japanese Finance Minister Sadakazu Tanigaki said on Tuesday that excessive movements in the foreign exchange market were undesirable but declined to comment on Japan's forex intervention policy.

Several other major events are slated for this week, including euro zone growth figures on Thursday and U.S. trade data at week's end.