NEW YORK -- The euro hit a one-month high against the dollar Wednesday after a surprise improvement in German business sentiment bolstered the case for higher euro zone interest rates, which might be needed to fight inflation.
Both the current conditions and expectations components of the Ifo business sentiment index rose, extending the euro's gains on Tuesday after an adviser to the German government said he expects the European Central Bank to hike rates this year.
The comments come as oil prices continue to surge to new highs, increasing Europe's inflation fears and denting the U.S. growth outlook and the dollar.
"With oil reaching $130 a barrel, the stronger data adds to the complications for the ECB," said Camilla Sutton, currency strategist at Scotia Capital in Toronto. "They are most likely on hold, but their mandate is price stability, so if inflation moves higher, they are more likely to hike than to cut."
The euro rose as high as $1.5776 and 80.34 pence , the highest levels since April 24. Against the dollar, the euro later eased to $1.5769, up 0.7 percent on the day.
The euro's rally and the rise in oil prices dragged the dollar down to a one-month low against a basket of six major currencies, at 71.981.
The ECB has held interest rates at 4 percent since last June, and expectations of slower euro zone growth in recent weeks had led investors to start pricing in a near-term rate cut.
But the recent string of strong data from Germany, the euro zone's largest economy, has called that outlook into question.
"The Ifo showed that the ECB is still in a position to make a move (up in rates) if it needs to do so," said Simon Derrick, head of currency research at Bank of New York Mellon.
In the short run, the risk that the euro retests its all-time highs above $1.60 is increasing, particularly if it breaks the next technical objective at $1.58, according to Brown Brothers Harriman strategists.
The dollar fell 0.3 percent to 103.30 yen and 0.7 percent to 1.0295 Swiss francs. It also shed 0.7 percent against its Canadian counterpart to C$0.9838, with the loonie boosted by high oil prices and a gain in April Canadian consumer prices.
FED MINUTES IN FOCUS
In contrast to burgeoning speculation of an ECB rate hike, bets on a Federal Reserve tightening before the end of the year have faded a bit in recent days. Fed Vice Chairman Donald Kohn said on Tuesday that rates appear to be at the right level for now, though he did stress uncertainty about the future.
Markets will keep an eye on the 2 p.m. (1800 GMT) release on Wednesday of the minutes from the Fed's April meeting, when it cut rates to 2 percent. Officials hinted then that they might move to the sidelines to allow rate cuts totaling 3.25 percentage points since September time to work through the U.S. economy.
"A broader discussion of (U.S.) inflation risks in the minutes may help the greenback" by reinforcing expectations that the Fed is unlikely to reduce interest rates again, said Ashraf Laidi, chief market analyst at CMC Markets in New York.
U.S. interest rate futures were pricing in about an 80 percent chance of a rate hike by year end, from near 100 percent on Tuesday.
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