* Dollar falls on rebounding oil, strong German PPI
* Dollar index set for largest weekly loss since March 30
* ECB's Smaghi says rates must rise unless services sector
helps
(Recasts, updates prices, changes dateline; previous LONDON)
By Lucia Mutikani
NEW YORK, June 20 (Reuters) - The dollar fell broadly on
Friday, dragged down by a surge in oil prices and more tough
inflation comments from a European Central Bank official that
raised the specter of rate hikes in the euro zone beyond July.
ECB Executive Board member Lorenzo Bini Smaghi, writing in
a column for the Financial Times published on Friday, said the
central bank will have to raise interest rates unless the euro
zone services sector improved its productivity to counter
higher commodity prices.
At the same time, German producer price inflation rose at a
much faster-than-expected pace in May to its highest level
since July, fanned by surging energy costs. For details, see
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"That's pushing the euro up. With the ECB forever concerned
about inflation and the inflation data out of Europe coming in
stronger than expectations, that's going to keep the focus on
rate hike expectations in the euro zone," said Ron Simpson,
director of FX research at Action Economics in Tampa, Florida.
"ECB council members have been very clear that we are not
expecting a series of rates hikes, but on the other hand it's
to be dependent on incoming data. If we keep seeing numbers
like this, at some point the market will begin to price in more
than one rate hike by the bank."
The ECB has already flagged an interest rate hike for July,
which could further widen the euro's yield advantage against
the dollar.
The New York Board of Trade's dollar index, which tracks
the dollar's performance against a basket of six currencies,
dropped to a 10-day low at 73.003 <.DXY> and was poised for its
largest weekly loss since March 30.
The euro rose 0.7 percent to $1.5606 <EUR=>, after climbing
to a session high of $1.5624 in overnight trade.
OIL REBOUNDS
Oil <CLc1> rose above $133 a barrel, rebounding from
Thursday's sharp sell-off after China's move to raise fuel
prices. Analysts said the thinking in the market was that
China's fuel price increase may actually boost demand.
The dollar has tended to fall when oil prices surge due to
speculation that oil-producing countries may use the increased
dollar-denominated windfall from crude exports to buy euros and
other currencies to diversify their portfolios.
"There is a broad-based dollar weakness on a perception
perhaps, that oil will stay very high for at least a little
while," said Stephen Koukoulas, global strategist at TD
Securities in London.
Moody's Investor Service's downgrading of the insurance
arms of Ambac Financial Group <ABK.N> and MBIA Inc <MBI.N> late
on Thursday also added to selling pressure on the U.S.
currency. The downgrades highlighted continuing jitters over
the credit crunch.
Investment bank Citigroup <C.N> also warned late on
Thursday that it could take substantial write-downs in the
second quarter.
Those concerns about the health of the U.S. financial
sector pushed stock futures lower, sending the dollar tumbling
against the Japanese yen. The dollar fell as low as 107.38 yen
<JPY=>. It was last down 0.5 percent at 107.50 yen.
Against the Swiss franc, the dollar dropped 0.9 percent to
1.0354 francs <CHF=>, letting go of gains made on Thursday
after the Swiss National Bank elected to keep its borrowing
costs on hold at 2.75 percent.
With little of note in terms of U.S. economic on Friday,
traders said major currencies were likely to trade in fairly
narrow ranges ahead of next week's Federal Reserve interest
rate-setting meeting and accompanying statement.
But analysts say the Fed's statement may be less hawkish
than some might expect, particularly after a series of
inflation-fighting comments from U.S. policy-makers.
"We believe that Fed tightening expectations remain
overdone, and under such conditions upside in the greenback is
fairly limited," UBS said in a note to clients.
(Additional reporting by Bate Felix in London; Editing by Dan
Grebler)
