(Recasts, updates prices, changes byline)
* Dollar drops as May U.S. jobless rate jumps to 5.5 pct
* Dollar set for worst weekly loss vs euro since late
March
* ECB officials toughen interest rate hike talk
By Lucia Mutikani
NEW YORK, June 6 (Reuters) - The dollar fell on Friday as
an unexpected surge in the U.S. jobless rate revived fears of a
deeper and more prolonged economic downturn, diminishing the
prospects of Federal Reserve interest rate hikes by year-end.
At the same time, European Central Bank officials appeared
to leave little doubt that euro zone rates were set to rise
next month, helping to set up the dollar for its worst weekly
loss versus the euro since late March.
Pressure on the embattled U.S. currency was also added by
the dramatic jump in oil prices to record highs. There are
fears that soaring oil prices could further damage the U.S.
economy, while simultaneously fanning inflation.
"The data today revealed that the glass is half empty for
the U.S. economy," said Brian Dolan, chief currency strategist
at Forex.com in Bedminster, New Jersey.
"The outlook has been wavering between a mild and
relatively brief downturn and now we have a shot of economic
reality that suggests it's going to be a longer and deeper
downturn," he added.
The New York Board of Trade's dollar index, which tracks
the dollar's performance versus a basket of currencies, dropped
to 72.362 <.DXY>, the lowest in more than two-weeks.
The euro climbed to a session peak of $1.5773 <EUR=>, on
track to post its best weekly gain versus the dollar since late
March. It traded at $1.5759 late Friday, up 1.1 percent on the
day.
ECB President Jean-Claude Trichet sparked a euro rally on
Thursday when he flagged a July interest rate hike to quell
inflation pressures. Trichet's remarks trumped Fed Chairman Ben
Bernanke's attempt to talk up the dollar two days earlier.
RATE SPREADS MOVE AGAINST DOLLAR
"Interest rate spreads since the ECB announcement yesterday
have moved against the dollar. The basic takeaway from all this
is confusion from what the Fed initiated on Tuesday to what the
ECB did on Thursday," said Dolan.
"We will have to see another round of verbal action from
the United States in order to shore up (dollar) sentiment."
On Friday, ECB officials reinforced Trichet's message about
possible tighter monetary policy after the central bank kept
its key refinancing rate at 4 percent.
U.S. crude oil futures <CLc1> jumped more than $10 per
barrel to over $138 per barrel, sending stocks on Wall Street
<> <.SPX> <> tumbling around 3 percent. The drop in
equities pushed the dollar lower versus the yen and Swiss
franc.
The yen and Swiss franc tend to attract flows during
periods of uncertainty as the countries' low interest rates
reflect the capital surplus of their respective countries.
Against the yen, the dollar fell 0.8 percent to 105.10 yen
<JPY=>, pushing away from a high of 106.33 yen touched in
overnight trade. The dollar dropped as low as 1.0191 Swiss
francs <CHF=>, the weakest in six weeks.
It last traded at 1.0195 Swiss francs, down 1.8 percent.
A government report showed the U.S. economy shed jobs for a
fifth straight month and the unemployment rate jumped to 5.5
percent in May from 5.0 percent in April as more people from
stressed households entered the job market.
Short-term interest rate futures, which track market
expectations for Fed policy, reduced the chances for a Fed rate
hike by October to about 56 percent from as high as 82 percent
earlier.
The chances of the Fed leaving rates unchanged at 2 percent
this month were fully priced in. The fed funds rate target has
been slashed by 3.25 percentage points since mid-September.
"There is a greater risk of another cut in the second half
of the year from the Fed despite the fact that Bernanke has
already indicated seemingly in his comments that the Fed is on
hold for the near term," said David Powell, currency strategist
at Bank of America in New York.
"This in itself is not justifying another cut, but the
continued deterioration in data is making a cut look more
likely despite the increased inflationary worries of the Fed."
(Additional reporting by Gertrude Chavez-Dreyfuss; Editing by
James Dalgleish)
