Euro sinks as ECB tightens squeeze on Greek banks

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The euro slipped against a stronger dollar, falling over 1 percent after the European Central Bank decided to keep Greek banks propped up with emergency funds, but made it harder for them to access the funds.

The euro fell as much as 1.2 percent against the dollar at $1.0929, beyond a five-week low, after the ECB confirmed that is was maintaining the "liquidity assistance" to Greek banks at 89 billion euros. Meanwhile the dollar rallied to trade 0.85 percent against a basket of currencies to levels not seen since the start of June.

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Greeks queue to use a National Bank of Greece ATM in Athens.
Katie Slaman I CNBC

While the ECB keep the loan amount to Greek banks at the same level, it also tightened the terms of the liquidity on offer by adjusting the "haircut" on the collateral required

Currently banks have to use assets as collateral in return for liquidity from Greece's central bank. Those assets are not accepted at their face value, but a haircut – the value of which is unknown -- is applied to them. In return, Greek banks get liquidity from the Bank of Greece, which is provided by the ELA (emergency liquidity assistance).

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In Greece, the capital controls imposed last week are set to continue this week. Cash withdrawals from ATMs have been limited to 60 euros, blocks on electronic transfers of money outside of Greece are in place and bank branches remain closed.

The move in the common currency comes after a week of fairly steady trade for the euro, even as debt talks between Greece and its international creditors appeared to be unravelling.

"The Governing council decided yesterday to maintain the amount of emergency liquidity provided to Greek banks at 89 billion euro ($97.6 billion), reportedly rejecting a request from the Bank of Greece to increase the liquidity provided by 3 billion euros. The ECB also reportedly raised the discount applied to Greek government debt and Greek government guarantees pledged as collateral against the ELA to 45 percent," according to Lee Hardman, a currency analyst at Bank of Tokyo-Mitsubishi UFJ.

The euro area heads of government are meeting in Brussels on Tuesday to discuss the situation in Greece, following the landslide "no" vote in the referendum against creditors austerity demands over the weekend.

The Greek government is expected to present creditors with new proposals for a bailout agreement but, according to media reports, they are thought to contain minimal revisions.

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Yields in two-year Greek bonds edged closer to 50 percent, at 49.6 percent in early afternoon trade.

Safe-haven U.S. Treasury and German government 10-year bond yields also flattened to trade around 2.23 and 0.67 percent respectively.

Currency strategist at UBS, Geoffrey Yu said moves in the euro last week were generally limited, but the single currency was at risk of severe moves this week given the uncertainty surrounding the situation.

"Given the fluid situation in the wake of the surprise 'no' vote on July 5th, further adjustments (in the euro) may take place rapidly and we note that current positioning for most G10 currencies is light enough for significant moves," he said.