Euro shaky on ECB and Greece, dollar keeps edge

BY IAN CHUA AND HIDEYUKI SANO

SYDNEY/TOKYO Sun Dec 21, 2014 9:24pm EST

(Reuters) - The euro probed fresh two-year lows early on Monday in a subdued start to a holiday-shortened week, extending a multi-month trend of weakness against the dollar that many traders say will remain intact in the new year.

Speculation is high that the European Central Bank (ECB) will be forced to expand its asset-buying program to include sovereign debt in early 2015, at a time when the Federal Reserve is preparing to do the opposite and lift interest rates.

The common currency has fallen about 11 percent so far this year. It last traded at $1.2230, having touched $1.2220 early in the session, a low not seen since August 2012.

The euro slipped to 146.17 yen, holding well off a six-year high of 149.79 set early in the month.

ECB governing council member Luc Coene said in a newspaper interview on Saturday that the bank should start buying government bonds to tackle poor investor confidence and low inflation in the euro zone.

His comments came as Vice President Vitor Constancio reiterated that the bank would, in early 2015, assess the effectiveness of measures it had already taken.

Constancio said the ECB must act if inflation was too low to maintain its credibility and would need to use channels it had not tried before.

"We think extremely low euro area December inflation will support our call for further ECB easing through the announcement of European government bond purchases at its 22 January meeting," analysts at Barclay wrote in a note to clients.

That would provide a catalyst for further euro/dollar depreciation next year, they said, adding the recent break lower has opened up targets around 1.2100 and 1.2040.

In addition, the currency was dogged by uncertainties on Greece, which could face an early election if its parliament fails to elect a president with a three-fifths majority.

Prime Minister Antonis Samaras, whose party is trailing behind anti-bailout Syriza Party in opinion polls, failed to win less votes than expected in the first round of voting last week, not boding well for two remaining rounds of voting, planned on Dec. 23 and Dec. 29.

"The markets may be quiet for now due to holidays but Greek vote on Dec. 29 could really shake things up," said a trader at a Japanese bank.

With the euro on the defensive, the dollar index held within striking distance of a near nine-year peak of 89.645 set on Friday.

As investors expect the Federal Reserve to raise rates for the first time since the global financial crisis in 2008, the dollar index also rose above its post-crisis peak of 89.624 marked in March 2009.

Still, the index could face a strong resistance at 90, with some analysts concerned that the dollar's excessive strength could reinforce disinflationary pressure in the United States.

Against the yen, the greenback bought 119.43, climbing back towards a 7-1/2 year high of 121.86 and away from a 115.56 trough plumbed last week.

The Australian dollar was becalmed at $0.8144, having slumped to a 4-1/2 year low of $0.8107 last week.

The lackluster start was in sharp contrast to the wild swings in risk appetite last week sparked in part by a currency meltdown in Russia and persistent weakness in oil prices.

Reassuring words from the Fed on Wednesday, which said it would not raise interest rates in the next couple of meetings, have since restored some semblance of calm.

Traders, many of whom have already closed their books for the year, said thin market conditions could lead to further choppy action in the next couple of weeks.