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Strong German Economy Weighs On Dollar

The dollar fell against the euro after data showing surprisingly strong German business sentiment bolstered the case for higher euro zone interest rates.

A separate report showing a sharp rise in U.S. wholesale prices last month gave the greenback a brief boost, but dollar selling resumed quickly, partly because the data was offset by last week's soft reading on U.S. consumer prices.

"I don't think this one number is going to set off the inflation alarm bells at the Federal Reserve," said Alex Beuzelin, senior market analyst at Ruesch International in Washington, referring to the wholesale inflation data.

But while U.S. interest rates are thought to be on indefinite hold at 5.25%, markets are gearing up for another rate hike in early 2007 from the European Central Bank.

Tuesday's report that German business sentiment had hit its highest level in 15 years strengthened that view by suggesting that European companies have not been squeezed by the euro's recent gains.

"The Ifo certainly has boosted the euro. It reaffirms the positive growth outlook for Germany and the euro zone going into 2007 and suggests that the ECB will continue to hike rates," said Mitul Kotecha, head of global FX research at Calyon in London.

Against the yen, the euro was changing hands at after the Bank of Japan kept interest rates unchanged at 0.25% and BOJ Governor Toshihiko Fukui warned that
domestic consumption and consumer price gains had softened. The dollar was unchanged at 118.14 yen.

A separate report showing that the pace of U.S. homebuilding picked up in November failed to lend the dollar any support.

THAI TROUBLES

Market players kept a close eye on developments in Thailand after the country's central bank announced regulations on foreign currency inflows designed to curb what it called speculation in the Thai baht.

That prompted the baht to post its biggest fall against the dollar in 4-1/2 years on Monday and sparked a nearly 15% plunge in Thailand's benchmark stock index.

But Thailand's finance minister has since announced that equities would be excluded from the regulations. In recent trade, the dollar was buying 35.795 baht, near its multiyear high at 35.970 baht.

Some analysts fear other countries in the region may be tempted to follow Thailand's lead for fear currency appreciation will make them less competitive with China, where the yuan's rise has been modest.

But Sean Callow, senior currency strategist at Westpac Banking Corp in London, said substantial spillover damage to other Asian currencies was unlikely.

"Indeed, some could benefit from investors switching to more investor-friendly currencies within the region," he wrote in a note to clients Tuesday.

Later on Tuesday, the U.S. Treasury was to release its semi-annual report on foreign exchange, prompting some speculation about whether China will be branded a "currency
manipulator" for failing to let the yuan rise more quickly.

The report is due just days after Treasury Secretary Henry Paulson returned from China after reaching no major breakthroughs regarding the value of the yuan.

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