By Catarina Saraiva

The euro fell to an 11-month low against the dollar on concern European leaders won’t agree on ways to expand the region’s rescue capacities as debt-strapped nations struggle to fund their deficits.

The 17-nation currency dropped against most of its major counterparts after Chancellor Angela Merkel told German coalition lawmakers that the 500 billion euro ($654 billion) cap on Europe’s planned permanent bailout fund will stay in place, two officials with knowledge of the discussion said. The dollar declined against the yen before the Federal Reserve holds a meeting today amid speculation officials will maintain their pledge to keep borrowing costs at almost zero.

“You continue to see strains within the euro group,” said John McCarthy, managing director of currency trading at ING Groep NV (INGA) in New York. “A division means a lower euro. The euro was already a little weaker and once we got convincingly through $1.3170, it dropped more.”

The euro dropped 0.7 percent to $1.3094 at 1:32 p.m. in New York, touching $1.3057, the lowest level since Jan. 12. It dropped 0.8 percent to 101.98 yen, touching the lowest since Oct. 6. The dollar fell 0.1 percent to 77.88 yen.
Stocks, Commodities

The Standard & Poor’s 500 Index climbed 0.4 percent after gaining as much as 1.1 percent. The Thomson Reuters/Jefferies CRB Index of raw materials rose 0.8 percent.

Merkel, during a meeting of her Christian Democratic caucus in Berlin today, confirmed the limit on the European Stability Mechanism as agreed by European Union leaders at a summit last week, the officials said on condition of anonymity because the talks are behind closed doors.

Euro Accord

European leaders unveiled a blueprint last week for a closer fiscal accord to save the currency, adding 200 billion euros to their current bailout fund and tightening rules to curb future debts. They also agreed to move up the creation of the ESM and said that by March the EU will reassess plans to cap the overall lending of the ESM and the temporary fund at 500 billion euros.

For the time being, Germany deflected a move to grant the ESM a banking license, which would enable it to multiply its firepower by borrowing from the ECB.

The euro’s tumble below its weakest levels against the dollar reached during October and November suggests the 17- nation currency may weaken to its lowest level this year, according to JPMorgan Chase & Co.

A break below $1.3047, the 61.8 percent Fibonacci retracement level from a four-year low reached in June 2010, may send the shared currency to the weakest this year, according to Niall O’Connor, a New York-based technical analyst with JPMorgan. The 2011 low is $1.2867, reached on Jan. 10.
Price Swings

Implied volatility for the currencies of the Group of Seven nations dropped to 12.75 percent from a high this year of 15.77 percent, reached Sept. 22, according to a JPMorgan Chase & Co. index.

The cost for European banks to borrow in dollars rose to the highest in two weeks, according to money-market indicators.

The three-month cross-currency basis swap, the rate banks pay to convert euro payments into dollars, was 128 basis points below the euro interbank offered rate. It has widened by 19 basis points since Dec. 8, when Europe’s leaders met in Brussels to address the region’s debt crisis.

The euro rose earlier after the European bailout fund held its first auction of bills, attracting bids for more than three times the amount of securities that it sold.
Funding Costs

The European Financial Stability Facility sold 1.97 billion euros of 91-day bills at an average yield of 0.222 percent, the Bundesbank said today. The sale was its first fund-raising since European leaders agree on a closer fiscal accord and additional resources to combat the region’s debt crisis at a summit in Brussels last week.

The ZEW Center for European Economic Research in Mannheim said its index of investor and analyst expectations, which aims to predict economic developments six months in advance, increased to minus 53.8 from a three-year low of minus 55.2 in November. Economists forecast a drop to minus 55.8, according to a Bloomberg News survey.

The shared currency has fallen 1.9 percent in the past month, the most among 10 developed-nation currencies, according to Bloomberg Correlation-Weighted Indexes. The dollar has strengthened 3.6 percent, the best performance, and the yen has advanced 2.6 percent.

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