Financial markets gave a cautious thumbs-up on Wednesday to a provisional budget deal that could prevent the U.S. government from shutting down in the coming months.

News that U.S. budget negotiators had reached a two-year agreement couldn't overcome the year-end blues in Asia. It was more warmly received in Europe, where shares inched higher and the dollar began to firm.

For many investors, the deal carried dual significance. It removed a key uncertainty hanging over markets, and it raised expectations that the U.S. Federal Reserve will soon start scaling back its $85 billion-a-month stimulus program.

"It certainly does appear that a window of opportunity could be opening up for the Fed to act next week without a sharp market reaction, said CMC Markets strategist Michael Hewson. "The only question remaining is as to whether they will avail themselves of it."

The to-and-fro of when the Fed will begin to halt the flow of cheap dollars has dominated trading worldwide for months. A recent run of strong data and comments from policymakers have bolstered expectations the process will start soon.

Most Asian share markets had lurched lower overnight as investors booked profits on a range of once-crowded positions, but European stocks <.FTEU3> were holding their own after dropping on Tuesday.

The U.S. deal came as euro zone countries also edged closer to agreeing a long-awaited plan to close ailing banks and at least partly sharing the costs involved.

In the FX market, the dollar <.DXY> was broadly firmer in reaction to the budget deal in Washington, though it struggled against the yen as a drop in the Nikkei in Tokyo drove up the Japanese currency.

Focus in European remained on the strong euro as it sat just off a six-week high versus the dollar at $1.3762 and a five-year high versus the yen hit on Tuesday.

Societe Generale FX strategist Alvin Tan said that with the euro zone making progress and the European Central Bank looking increasingly inclined to sit on its hands, the euro could well hit its highest level of the year.

"I'm afraid this euro squeeze is going to continue," Tan said. "The liquidity conditions are definitely tightening.

"There are the more macro reasons, but also the market had at the very least been expecting another LTRO (offering of cheap loans) by early next year and that is now in doubt."

NO TAPER TANTRUM

With the jury still out on a cut in Fed stimulus, European governments bond were sticking to tight ranges as U.S. Treasuries, the benchmark for global borrowing costs, edged back above 2.8 percent.

Celebrations of the U.S. deal were muted in Asia. Japan's Nikkei <.N225> fell 0.9 percent and South Korean shares <.KS11> 0.6 percent, even as the country reported its lowest jobless rate on record. Shanghai's market lost 1.1 percent <.SSEC>.

Dealers said many of the moves were caused by hedge funds unwinding what had been popular trades in short yen, short bonds, short gold, long dollars and long stocks.

In any case, investors seem to have made peace with the idea the Fed will taper soon, if not next week then by March, and that the economy can withstand the move. They have decided that tapering is not tightening and an actual rate hike is a distant prospect. Eurodollar and Fed fund futures have not fully priced in a first rate rise until the end of 2015.

In commodity markets, gold came off a three-week high to stand at $1,255 an ounce, though that was still up from last week's trough of $1,211.44.

U.S. crude rose as traders mulled news of progress towards opening a pipeline that will transport oil from storage centers in the U.S. Midwest to refineries in the Gulf. The news presaged a further drawdown in U.S. crude oil inventories for a second straight week and kept NYMEX crude at $98.55 a barrel.

At the same time, the prospect of increased supply of Brent crude narrowed the spread between the two oil contracts to a month's low. Brent crude for January delivery was 5 cents higher at $109.42 a barrel.