By Dhara Ranasinghe
LONDON, Aug 27 - The dollar rose against the euro and the yen on Monday, notching up gains of half a percent against the single currency on the back of a sharp rally in the U.S. stock market late last week.
U.S. stocks on Friday staged their biggest rally in more than six weeks after technology group Cisco said business was stabilising and strong new home sales boosted optimism that consumers are propping up a key sector of the U.S. economy.
The dollar is now more than one percent above last week's five-month lows against the euro. It received additional support against the yen after Japan's top financial diplomat Haruhiko Kuroda repeated on Monday that the yen's recent strength was not appropriate.
"U.S. equity markets were quite strong and this is having a knock-on impact on the dollar," said Paul Mackel, currency strategist at Dresdner Kleinwort Wasserstein in Frankfurt.
"The dollar's recent weakening has been slightly overdone and the market is realising that there should be some correction."
Dealers said that trade was thin as London markets were closed for a holiday. With attention turning to Thursday's European Central Bank meeting, the dollar was seen holding a tight range against the euro.
At 0721 GMT, the U.S. currency was pinned near the day's peaks around $0.91 per euro , up about half a percent from the New York close. The euro, meanwhile, stood around 109.45 yen , down slightly on the day.
JAPAN STEPS UP YEN TALK
The dollar was slightly firmer around 120.25 yen , one percent above 2-1/2 month lows set earlier this month.
Japanese Vice Finance Minister for International Affairs Haruhiko Kuroda said earlier that the recent rise in the yen was not appropriate given economic fundamentals, keeping markets wary about possible intervention to cap yen strength.
"It is true that the world economy is not strong. But the Japanese economy is not strong either, so there is absolutely no reason for the yen to strengthen," Kuroda said.
Japanese authorities have been concerned that the yen's recent strength will hurt Japanese exporters, denting the already frail economy. The yen has added about four percent against the dollar in the past month.
Dealers said that, along with consistent sales from Japanese exporters, some institutional investors were rumoured to be repatriating their funds, selling foreign securities to collect profits to cover up for losses from domestic stocks.
EURO AWAITS ECB
The euro was seen hugging tight ranges with the market unwilling to take new positions ahead of the ECB's interest rate decision this Thursday.
Recent signs of easing inflation in the euro zone have fuelled speculation that the ECB will make its second growth-boosting rate cut of the year this week.
In a poll last week, 41 out of 55 economists forecast the ECB would cut the minimum bid refi rate by a quarter point to 4.25 percent.
Traders said there was a possibility that the euro could consolidate lower after a six-week run-up of nearly 10 percent against the dollar, but expectations of a growth-boosting European rate cut have also supported the single currency.
"The ECB's rate cut could have the effect of boosting the central bank's credibility. This fact itself could also be a factor to keep the euro supported if an actual cut takes place," said Koji Fukaya, chief forex analyst at Bank of Tokyo-Mitsubishi in Tokyo.