LONDON, Sept 17 (Reuters) The dollar stabilised around half a cent away from last week's record lows versus the euro on Monday as investors counted on an imminent cut in U.S. interest rates, with more to come in the months ahead.
The market is convinced the Federal Reserve will cut the 5.25 percent funds rate by at least 25 basis points on Tuesday to help cushion the economy from the housing market slowdown.
Worries about the wider implications of the U.S. subprime mortgage crisis -- and the credit crunch that it sparked -- were fanned by news last week that major UK mortgage lender Northern Rock became the latest victim of tighter liquidity.
Northern Rock's woes sent sterling to 14-month lows against the euro and sparked a sell off in European equities, leading to increased risk aversion and thus gains in the Japanese yen.
U.S. data on Friday showing an unexpected fall in core retail sales and weaker than forecast industrial output in August further boosted the case for lower U.S. interest rates ''Looking at (market) pricing, it seems to be almost completely even, 50-50, between a 25 basis points cut or a larger cut,'' said Johan Javeus, FX strategist at SEB in Stockholm.
''I think it's likely that most markets will be in wait-and-see mode right now, unless of course we see any more disturbing news from the corporate sector -- either from the investment banks delivering results this week or from other events like what we saw with Northern Rock last week.'' Starting with Lehman Brothers on Tuesday major U.S.
investment banks release their latest results this week, perhaps showing just how costly the credit squeeze has been.
By 0713 GMT the euro was steady at $1.3873, within sight of last week's record highs at $1.3927 according to Reuters data.
The dollar was also little changed against a basket of six major currencies at 79.58, having edged away from last week's 15-year troughs at 79.30.
ON RISK ALERT Sterling set a fresh 14-month low versus the euro and an 11-month low on a trade-weighted basis, hurt by troubles at Northern Rock and last week's soft house price data.
''It looks as though the funding environment for mortgage lenders will remain challenging into year end, forcing lenders to pass on higher costs to mortgage borrowers and accelerating the downturn in the UK housing market,'' ING said in a note.
''Expect the market to start pricing in a first half 2008 UK easing cycle with greater confidence and GBP to embark on what could be a multi-quarter decline,'' the bank added.
In contrast, several policymakers from the European Central Bank warned over the weekend that inflation risks in the euro zone were still on the high side, leaving the door open for a tightening once credit markets calmed down.
Likewise, the Bank of Japan is still inclined to raise rates in coming months even if it stands pat as expected this week.
The yen added around a third of a percent versus the euro and the dollar, to trade at 114.99 yen and 159.36 yen respectively. The low-yielding currency tends to do well at times of risk aversion when investors pull out of yen-funded carry trades and other risky positions.
U.S. Treasury Secretary Henry Paulson said on Monday he expected market turbulence to continue for a while, but noted that the backdrop was still one of global financial strength.
Former Fed Chairman Alan Greenspan said on Sunday that the U.S. housing slump was set to be worse than anyone currently expected, while also cautioning the present Fed chief not to ease too aggressively because of the increasing threat of future inflation.
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