The euro fell to a six-week low against a buoyant dollar on Wednesday, hurt by worse-than-expected German and French gross domestic product data that strengthened the case for more monetary easing in the euro zone.
In contrast, the U.S. is showing signs of a recovery, underpinning expectations that the Federal Reserve may wind down its asset purchases programme by the end of the year. That has pushed up U.S. bond yields and driven the dollar to a 4-1/2 year high against the yen.
The euro fell 0.2 percent against the dollar to $1.2888, with exporter bids cited at $1.2880. Many investors are looking to initiate bets against the single currency into a bounce towards $1.2900 for an eventual grind lower to this year's trough of $1.2740, traders said.
"The risk is for euro zone GDP to undershoot expectations of a modest contraction," said Jeremy Stretch, head of currency strategy at CIBC World Markets. "This will put pressure on the ECB to act. And if U.S. yields stay supported and data there keeps improving, we could see the euro target the $1.2740 area."
European Central Bank officials have said they could ease monetary policy further, and perhaps even take the deposit rate, the level at which banks park their surplus cash with the central bank, below zero, if the economy slowed.
A cut in the deposit rate would make holding euros unattractive and could lead to a broad selloff.
Germany grew by just 0.1 percent in the first quarter, weaker than forecast, while France entered a shallow recession after contracting by 0.2 percent in the first three months of the year. With growth in the largest economies in the currency bloc disappointing, expectations are the euro zone could contract by more than the forecast 0.1 percent.
DOLLAR BUOYANT
The euro's losses saw the dollar index rise 0.3 percent to 83.871. More gains by the dollar could see the index rise to as high as 84.10, a peak hit in July 2012.
"Right now the market is dominated by dollar strength, and I think that will continue for a while," said Kyosuke Suzuki, director of FX at Societe Generale.
"It's mainly due to strong data - and if employment drops to just above 7 percent, near to the Fed's mandate of 6.5 percent, then I think an end to its easing programme could be in sight."
The dollar rose to 102.63 yen on EBS trading platform, its highest since October 2008. Option barriers are cited at 103 yen which could slow the dollar's rise, traders said.
The Bank of Japan could ease its already ultra-loose monetary policy even further as early as October if prices do not rise as quickly as projected, according to economists polled by Reuters.