LONDON: A sell-off in the yen paused on Friday but was on course for its biggest weekly losses against the dollar since late June on expectations a new Japanese government would push for further monetary easing.
The dollar has rallied more than 2 percent against the yen over the past two sessions -- its biggest two-day rally since October 2011 -- after Japanese Prime Minister Yoshihiko Noda paved the way for a snap election on Dec. 16.
The lower house of parliament was dissolved on Friday.
Shinzo Abe, leader of the main opposition Liberal Democratic Party and likely to be Japan's next leader, called on Thursday for the country's central bank to adopt interest rates of zero or below to spur lending.
The dollar was down 0.2 percent at 81.00 yen, with traders citing a large options barrier at 81.50 yen and stop-loss orders placed above it.
It hit a 6-1/2 month high of 81.46 yen on Thursday on trading platform EBS and some said it could rise towards 82 yen if the Bank of Japan, which holds a policy meeting next week, indicated it could ease further.
"The basic driver is still the interest rate differential between the dollar and yen, which is very narrow, and we have to wait for what happens after the elections," said Marcus Hettinger, global FX strategist at Credit Suisse in Zurich.
"Dollar/yen can go a little bit higher to 81.50, but we don't see a big catalyst for weaker yen as it still depends on interest rate differentials. Only if the BOJ were to ease more aggressively we will see some weakness in the yen but it is not yet clear when this will happen."
The dollar/yen pair has had a robust correlation with the spread between two-year US Treasuries and Japanese government bond yields.
Short-dated Japanese bond yields have fallen sharply this week but so have US Treasury yields on expectations of Federal Reserve easing and safe-haven flows into Treasuries due to worries about the US fiscal cliff.
Some strategists said the yen's current weakness may not last, especially if worries about the US fiscal cliff mount and euro zone debt concerns deepen. The yen is often a sought-after currency during times of uncertainty.
"It is hard to see dollar/yen move too high in this environment and unfortunately for the Ministry of Finance the yen is still fulfilling the role of safe haven," said Neil Mellor, currency strategist at Bank of New York Mellon.
"I would be surprised if dollar/yen went significantly higher than the current 81 levels."
EURO WORRIES
Investors remained on edge about the uncertainty in Greece and recent economic data out of the euro zone has done little to lift market sentiment towards the euro.
The euro was down 0.6 percent at 103.10 yen, but still on course for its biggest weekly gains since early October.
Against the dollar, the euro was down 0.4 percent to 1.2730 , though still well above Tuesday's two-month low of $1.2661. Near term resistance is seen at its 200-day moving average of $1.2810.
"Particularly bad figures will move the euro but it is unlikely to rally on a positive figure as we have a market that is looking for reasons to sell the euro, not buy it," Mellor said.
Investors were also nervous about the start of budget talks in the United States, fearing a stand-off in negotiations to avoid some of the $600 billion of spending cuts and tax hikes that kick-in in January.
A protracted impasse could see investors seek shelter in the dollar.
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