* Liquidity thinning ahead of US, London holiday weekends
* Euro pinned down as German Ifo misses expectations
* Dollar firm as upbeat US data lifts Treasury yields
By Anirban Nag
LONDON, May 23 (Reuters) - The euro fell to a three-month low against the dollar and a 17-month trough against the pound on Friday, after a soft German business sentiment survey added pressure on the European Central Bank to ease policy next month.
Concerns that European Union election results at the weekend could destabilise some euro zone governments also weighed on the single currency.
Germany's leading indicator of business morale, the Ifo index, pointed to slower growth in Europe's largest economy as the index hit its lowest level this year in May. Assessments of current business and expectations of future business developments both fell.
The euro slid to $1.36165, a three-month low, brushing past its 200-day moving average of $1.36375. It shed 0.1 percent to a 17-month low of 80.815 British pence as rate differentials between euro zone and UK government bond yields continued to diverge in the pound's favour.
"The softening of German business expectations was the defining thing that led to a lower euro," said Jeremy Stretch, head of currency strategy at CIBC World Markets.
"A close below the 200-day moving average is what is needed for more downside. If the euro closes below the 200-day moving average today, we could see it drop towards the mid-$1.35s."
Traders said investors were also cutting positions ahead of EU parliament election results due on Sunday. A strong showing by fringe parties would highlight the anti-euro and anti-austerity sentiment in some countries like Italy and Greece that have recently regained market confidence.
"Concerns about the sustainability of the peripheral rally could grow and add to bets on more aggressive ECB action in the wake of the EU election," said Valentin Marinov, currency strategist at Citi.
Most EU countries vote on Sunday, when any trend towards the political extremes may become clearer. Results, including the allotment of seats in the parliament, will be announced at around 2100 GMT on Sunday.
Reflecting the uncertainty, implied volatilities in the euro/dollar pair picked up. The one-month implied volatility - a gauge of how sharp expected moves in the currency is likely to be in the coming month - rose to its highest since early April, trading at around 6.05 percent.
The euro's losses saw the dollar index, which tracks the greenback against a basket of major currencies, rise to its highest in six weeks at 80.425.
The dollar touched a one-week high against the yen, holding gains made after promising U.S. housing and factory activity data on Thursday nudged U.S. Treasury yields away from recent lows.
Against the yen, the dollar was up 0.2 percent at 101.935 , well off a 3-1/2 month trough of 100.805 yen plumbed on Wednesday.
The benchmark U.S. Treasury yield briefly hit a 1-1/2 week high of 2.57 percent after the economic data. In European trade, the 10-year yield stood at 2.55 percent, mostly unchanged from the U.S. close, but above recent lows of 2.47 percent struck on May 15.
Traders said liquidity would be thinning out going into a long weekend in London and in the United States.
(Editing by Toby Chopra and Susan Fenton)
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