By Ye Xie and Michael J. Moore
Jan. 6 (Bloomberg) — The euro traded near a three-week low against the dollar before a European Union report forecast to show inflation slowed in December, giving more room for the European Central Bank to lower interest rates.

The greenback gained versus the yen, the Swiss franc and the Danish krone yesterday on speculation President-elect Barack Obama’s fiscal stimulus will help the U.S. economy recover from recession. The pound appreciated against the euro, dimming the possibility it will slide to parity, on bets the U.K. government will guarantee asset-backed securities to revive bank lending.

“The euro has lost some of its upward momentum,” said Meg Browne, a senior currency strategist at Brown Brothers Harriman & Co. in New York. “The U.S. economy, because of the policies that have been taken already, turns sooner than Europe and will regain its strength later this year. That’s a positive for the dollar.”

The euro traded at $1.3633 at 7:08 a.m. in Tokyo, after falling 2.1 percent yesterday and touching $1.3547, the lowest since Dec. 15. The dollar was at 93.33 yen, after increasing 1.7 percent and reaching 93.57, the highest since Dec. 8. The euro traded at 127.19 yen, following a 0.4 percent drop.

Sterling strengthened beyond 93 pence per euro yesterday for the first time since Dec. 22, gaining 3.4 percent to 92.43 pence. The pound slid to 98.03 on Dec. 30, the weakest since the European currency’s 1999 debut. The pound increased 0.9 percent to $1.4681 yesterday.

BOE’s King

Bank of England Governor Mervyn King’s first course of action this year will probably be to expand the 200 billion- pound ($290 billion) program that allows banks to swap illiquid securities for government debt, according to economists.

The euro slid yesterday against 13 of the 16 most actively traded currencies tracked by Bloomberg on bets the ECB will make further cuts in its main refinancing rate, now 2.5 percent. The euro fell 4.2 percent against the dollar in 2008.

Inflation in the euro area probably slowed to 1.8 percent last month, according to the median forecast of 28 economists surveyed by Bloomberg News. The report from the European Union’s statistics office in Luxembourg is due today. The rate slowed to 2.1 percent in November from 3.2 percent in the prior month, the biggest reduction since at least 1991.

Should inflation keep slowing, further interest-rate cuts may be needed, European Central Bank Vice President Lucas Papademos said at a San Francisco conference on Jan. 4.

ECB Outlook

“Poor economic fundamentals in the euro land warrant further rate cuts from the ECB,” said Paresh Upadhyaya, who helps manage $50 billion in currency assets as a senior vice president at Putnam Investments LLC in Boston. “The interest- rate differential is moving in favor of the dollar again.” The euro may fall to $1.30 in three months, said Upadhyaya.

Last month, the Federal Reserve reduced the target rate for overnight lending between banks to a range of zero to 0.25 percent for the first time.

The yen fell 3.6 percent to 6.92 against Mexico’s peso yesterday and 2.5 percent to 137.02 versus the pound on bets investors will resume carry trades, in which they get funds in a country with low borrowing costs and buy assets where returns are higher. Japan’s 0.1 percent target lending rate compares with 8.25 percent in Mexico and 2 percent in the U.K.

Japan’s currency rose 23 percent against the dollar in 2008 and hit a 13-year high against the dollar last month, undermining the competitiveness of the nation’s exports.

BOJ Measures

The Bank of Japan may consider measures including monetary policy to counter the rising yen as the economy faces severe conditions in 2009, Governor Masaaki Shirakawa told public broadcaster NHK on Jan. 4.

The greenback gained 2.2 percent to 5.4710 Danish krone and 2.1 percent to 1.1015 Swiss franc yesterday as a transition official and Democratic aides said Obama plans to seek congressional approval in coming weeks for an economic stimulus plan that may total $775 billion. Tax cuts may account for 40 percent of the package, they said.

“I am very bullish on the dollar throughout 2009,” said Matt Esteve, foreign-exchange trader at currency-trading firm Tempus Consulting Inc. in Washington, in an interview on Bloomberg Television. “I think it’s because the U.S. economy is best set for recovery in 2009.” The dollar will advance to $1.10 per euro and 110 yen by year-end, according to Esteve.

To contact the reporters on this story: Ye Xie in New York atyxie6@bloomberg.net; Michael J. Moore in New York atmmoore55@bloomberg.net

Last Updated: January 5, 2009 17:12 EST

www.bloomberg.com