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Euro drops to 3-week low on ECB easing talk, kiwi strong

The euro fell to three-week low against the dollar on Friday, with investors wary given strong rhetoric from European Central Bank officials about its recent strength and awaiting German inflation data that could undermine it further.

Slightly soft Spanish inflation numbers led to a drop in the euro in early trade in London, with more sellers likely to line up if German inflation data, due at 1300 GMT, highlights subdued price pressures in Europe's largest economy, traders said.

Foreign exchange currencies.
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Foreign exchange currencies.

That will keep alive the risk of a lower inflation reading for March from the euro zone on Monday and bolster chances that the ECB will probably have to act to ward off disinflation in the currency bloc.The ECB meets on Thursday to decide on policy.

The euro fell 0.2 percent to $1.3710 and was on track to end lower for a second straight week. Against the yen, the common currency fell to 139.96 yen, its lowest level since early March.

"The March consumer inflation numbers for the euro zone are important and we expect a soft reading which will lead to expectations of a dovish ECB," said Yujiro Gato, currency analyst at Nomura.

Read More ECB to get drastic? QE could be on the table

"So there are downside risks to the euro going into next week, although having said that there is always a chance that the ECB may disappoint and take no action. In that case, the euro is bound to react strongly."

The euro has sagged since comments this week for more ECB action came surprisingly from Germany, whose policymakers have repeatedly voiced concerns about unorthodox monetary easing.

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ECB Governing Council member and Bundesbank chief Jens Weidmann said negative interest rates were an option to temper euro strength and buying loans and other assets from banks to support the bloc was not out of the question.

Peripheral European government bond yields hit a multi-year trough on Friday while the premium that U.S. two-year debt pays over German paper widened.

An overwhelming majority of economists polled by Reuters expect no imminent rate move at the April 3 meeting. Only two of 72 economists predicted a rate cut, versus 26 of 78 who did before last month's meeting.

Kiwi on fire

Well ahead of every other developed country in normalising policy is New Zealand, which this month lifted interest rates from a record low and flagged more tightening.

Unsurprisingly, the New Zealand dollar has been among the strongest performers in recent months. It rose as far as $0.8697 a high not seen since August 2011. Against the yen, the kiwi hit a six-year high of 88.86.

The U.S. dollar traded little changed at 102.15 yen. The yen showed limited reaction to data that showed Japan's core consumer prices rising 1.3 percent in February from a year earlier, posting a ninth straight month of gains and hinting that the economy is making some progress to overcome 15 years of deflation.

Japan's CPI is expected to gather more attention after the country raises its consumption tax in April, which may cool consumer spending and raise speculation of further monetary easing by the Bank of Japan.

"Into the March 31, year-end dollar/yen may be pressured below 102, but thereafter concerns about the negative impact from April's sales tax hike might weigh on the yen," said Tom Levinson, currency strategist at ING.

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