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Goldman Sachs Doubts Intervention on Euro, But Action on Yen Possible

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(Bloomberg) -- The European Central Bank is unlikely to step directly into foreign-exchange markets even in the face of a more than 10% slump in the euro this year, although there’s potential for Japan to engage in that kind of intervention if the yen keeps sliding, according to Goldman Sachs Group Inc.

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The US dollar, fueled by a combination of aggressive Federal Reserve monetary policy and haven buying, is trading near its strongest level in decades, steamrolling currencies from Hungary to New Zealand. The euro and yen -- the greenback’s most widely traded peers -- have struggled to hold their ground, while some countries such as Chile and India have already taken direct action in support of their currencies.

Yet the odds such a move by the ECB in the near-term are low, according to Goldman foreign-exchange strategist Karen Reichgott Fishman, who says President Christine Lagarde and her colleagues have more pressing issues to tackle before shifting their attention toward supporting Europe’s common currency. High on that list are the surge in inflation, risks to energy supplies and the deterioration of so-called peripheral bond markets, such as Italy’s, whose issues are being exacerbated by political turmoil.

These problems underpinned the central bank’s decision Thursday to raise its benchmark rate by half a percentage point -- its first increase in a decade -- and provide further details about its newest bond-market instrument, which is aimed at preventing a splintering of the euro area.

‘Fragmentation Risks’

“Concerns of fragmentation risks and elevated political uncertainty in Italy ultimately outweighed the initial upward pressure on the euro -- highlighting the complicated set of challenges the single currency is facing at the moment,” the Goldman strategist wrote in a note. While FX intervention is certainly “in the toolkit,” the likelihood of the ECB deploying it is “low,” she said.

The euro dropped 0.3% Friday to $1.0194, extending this year’s decline to 10.3%.

Meanwhile, the yen has dropped more than 16% against the greenback this year and earlier this month touched the weakest level since 1998. Bank of Japan Governor Haruhiko Kuroda emphasized Thursday his determination to stick with rock-bottom interest rates even if it means a weaker currency.

How long the BOJ can stand pat as the yen slides is an open question. Reichgott Fishman said while interventions by the world’s largest central banks have been rare in recent decades -- and when they do occur they’re typically co-ordinated -- the odds Japan will do something will increase if the dollar-yen rate keeps pushing higher.

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