Wed Nov 12, 2008 7:44am EST
source: reuters

* Euro/dollar pares early gains, pressured by weak data
* Shaky stocks keep risk aversion high, supporting dlr, yen
* Sterling hits 6-yr low vs dollar after grim BoE forecast
* Pound hits record low vs euro at 82.37 pence
(Adds quotes, updates prices, changes byline)


By Naomi Tajitsu

LONDON, Nov 12 (Reuters) - The euro pared gains against the dollar on Wednesday after data underlined economic weakness, while sterling tumbled after a grim Bank of England forecast fuelled expectations for more UK interest rate cuts.

Sterling hit a six-year low against the dollar and a record trough against the euro after the BoE's quarterly Inflation Report predicted the UK economy will shrink sharply next year and inflation may fall to just below 1 percent [ID:nBOE001620].

A tentative improvement in European share prices offered some support to the euro, but the currency stayed on the back foot after data showed euro zone industrial production fell more than expected by 1.6 percent on month in September [ID:nLC724790].

This bolstered the view that a further fall in European Central Bank rates, now at 3.25 percent, was inevitable [ECB/INT] to counter the effects of a worldwide downturn.

"The production data confirms that the euro zone is in a technical recession. It confirms that more rate cuts are coming from the ECB," said Lena Komileva, G7 market economist at Tullet Prebon in London.

Eonia interest rate futures indicate that markets are pricing in another big rate cut, with ECB rates seen around 2.5 percent by next month.

By 1204 GMT, the euro rose 0.4 percent to $1.2570, but hovered well below a session high of $1.2632. It hit a two-week low of $1.2481 earlier in the day, according to Reuters data.

European stocks traded 0.6 percent higher, paring gains made earlier in the day.

The euro rose 0.3 percent to 122.66 yen but stayed in range after hitting 121.23 yen, its weakest level since late October, on electronic trading platform EBS earlier in the day.

The dollar fell slightly to 97.60 yen .

Analysts said risk aversion would keep higher-yielding currencies like the euro under selling pressure, supporting lower-yielding currencies like the dollar and the yen.

"Given risks to the global economy, investors are holding cash and holding safe-haven which means heading back into Treasuries and the U.S. dollar," said Geoffrey Yu, currency strategist at UBS in London.

STERLING STUNG

Sterling dropped roughly one percent against the dollar to $1.5204 according to Reuters data, its weakest level since 2002, after BoE Governor Mervyn King told reporters that the central bank was prepared to ease monetary policy even more after a stunning 150 basis point cut to 3.25 percent last week.

The UK currency also fell around one percent against the euro, hitting an all-time low of 82.37 pence according to Reuters data, after the BoE's gloomiest forecast in more than a decade.

Against a basket of currencies, sterling <=GBP> hit a 12-year low.

"The overall message of this report is that the UK economy is in recession and likely to stay there for the time being, and that, without further monetary easing, inflation is likely to undershoot the BoE's target," said Daragh Maher, deputy head of currency strategy at Calyon in London.

Sonia interest rate futures indicate that markets have fully priced in another 50 basis point cut by next month.

(Additional reporting by Tamawa Kadoya; Editing by Ruth Pitchford)