LONDON, Mar 22 (Reuters) The dollar hit its highest in nearly a week against the euro and the yen on Wednesday as traders bet on further U.S. interest rate rises following an expected hike at next week's Federal Reserve policy meeting.
Strong core producer price data for February on Tuesday and upbeat comments on the economy from Fed Chairman Ben Bernanke have revived expectations for the U.S. central bank to raise rates to 5 percent by May and possibly higher after that.
The dollar has been reversing losses made last week on reduced expectations of U.S. rate rises, and rose against a basket of currencies to its highest level since last Thursday.
''Bernanke comments have probably eased FX market and dollar concerns that the Fed may be about to come to the end of its tightening cycle,'' said Kamal Sharma, currency strategist at Bank of America. ''All eyes are now on the March 28 meeting.'' By 1220 GMT, the euro was trading at $1.2074, down 0.1 percent on the day and just off a near-one-week high of $1.2066 hit earlier in the session.
Data on Wednesday showed the euro zone trade deficit widened in January and industrial orders fell strongly because of erratic orders for heavy transport equipment.
The dollar rose to a near-one week high at 117.40 yen, but the Japanese currency erased losses to trade around 0.14 percent firmer on the day at 117.12 after Bank of Japan governor Toshihiko Fukui spoke of tightening policy, even though he repeated that rates would stay low for some time.
HIGH-YIELDERS DROOP The Australian and New Zealand dollars stayed under pressure as investors sour on the high-yielding currencies with rates on the march higher elsewhere.
The Aussie was trading at US$0.7153, close to Tuesday's 18-month low. It is down about 3.5 percent so far this month.
The kiwi hit a 21-month low at $0.6180, down around 6 percent this month. From its peak in early December, the New Zealand dollar has plunged 14 percent.
The Icelandic crown, another high-yielder, slid to an 18-month low versus the dollar and a 16-month low versus the euro after Danske Bank said on Tuesday Iceland's economy was heading for a recession.
''High yielders and emerging markets generally are being sold, there is some position unwinding,'' said Adrian Schmidt, currency strategist at RBS.
''The markets are seeing this as some sort of evidence of risk aversion coming into the market, which I am not sure it is,'' he added.
Elsewhere, the Canadian dollar shed around half a percent versus the U.S. currency to hit a two-month low of 1.1715, after breaking through a key technical level around 1.1660. It has weakened steadily since hitting a 14-year high of 1.1292 at the start of this month.
TUG-OF-WAR The top three major currencies have been locked in an indecisive tug-of-war this year, as the Fed is seen raising rates a bit more, while the European Central Bank is also seen lifting rates from the current 2.5 percent and the Bank of Japan is expected to lift its near-zero rates before year-end.
But with the Fed closer to the end of its long campaign after 14 consecutive increases since June 2004 to 4.5 percent, the dollar has been very sensitive to changing sentiment on how high U.S.
short-term rates will climb.
Analysts are almost unanimous the Fed will bump up its funds rate to 4.75 percent at the two-day meeting ending next Tuesday, the first Bernanke will chair since taking the reins from Alan Greenspan.
''From what we've heard from Bernanke, they are not going to guarantee that we are going to get a pause,'' said Schmidt.
''They might be a bit more neutral than they were, but they are still going to be pointing to upside risks to rates. I think that will mean that the markets has to price in a touch more (in terms of rate hikes).'' The market is leaning towards another Fed tightening at the May meeting but is less certain about the economic outlook and the central bank's response beyond that.
Bernanke said on Tuesday that the record U.S. trade deficit would not necessarily trigger a ''precipitous'' drop in the dollar, but that the economy and markets may be able to withstand any such slide.
REUTERS SD BD2023