LONDON: The dollar steadied near a 3-1/2-year high against the yen and held firm against other major currencies on Monday on increasing optimism about the strength of the US economic recovery.
Encouraging US employment data has fuelled speculation the Federal Reserve could back off from its ultra-loose monetary policy sooner than anticipated and looked set to keep demand for the dollar buoyant.
In contrast, the euro looked vulnerable to concerns about political instability in Italy and speculation that the European Central Bank may loosen monetary policy to revive growth.
The dollar was close to flat on the day at 82.740 against a basket of major currencies, not far from the seven-month high of 82.924 hit on Friday. Having risen nearly 5 percent since early February, the index appears to be on course to test its July 2012 peak of 84.10.
"We remain constructive on the dollar. There are expectations that the Fed could consider reducing the size of its asset purchases in the second half of the year and this could help the dollar," said Valentin Marinov, head of European G10 FX strategy at Citi.
Data released on Friday showed speculators boosted their bets in favour of the US dollar in the latest week to the highest in more than seven months.
The euro dipped 0.1 percent to $1.2995, holding within sight of a three-month low of $1.2955 hit on Friday. Traders said buyers could emerge on dips around $1.2950, which could act as near-term support, and many would continue to sell on rallies to around $1.3030.
Weak French industrial output data, showing a monthly decline of 1.2 percent in January, reinforced signs of divergence between the stronger economic performance of Germany and other euro zone countries.
Ratings agency Fitch added to Italy's mounting problems on Friday by cutting its credit rating due to political uncertainty, deep recession and rising debt.
CENTRAL BANK CONTRAST
Strategists said that while the Fed's next policy step could be to scale back its stimulus, the world's other major central banks could ease policy further.
The ECB opted to keep rates on hold at a monthly meeting last week, but many market players are betting on looser policy in coming months. International Monetary Fund head Christine Lagarde said on Friday the ECB should lower rates.
"The difference between the ECB and the Fed will be increasingly notewothy, and investors will be mindful of the risk of (ECB) easing going forward," said Jeremy Stretch, head of currency strategy at CIBC World Markets.
"We are looking for a move back into the mid-$1.20s by the middle of the year."
The Bank of Japan may ease policy further still under new governor Haruhiko Kuroda, who is expected to be appointed this month. Many in the market expect the BOJ to ease aggressively at Kuroda's first policy meeting on April 3-4 as he promised to move quickly to implement fresh monetary stimulus on Monday, which could lead to further yen weakness.
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