The euro dropped to an 11-month low against the U.S. dollar Tuesday, with selling set to continue on concerns about a lack of unity among European nations to tackle the debt crisis and fears of more credit rating downgrades.
Losses accelerated after the euro broke below its October low at $1.3145, followed by $1.31, and triggered a wave of automatic sell orders. Further key support levels lie around $1.30 and $1.2860, the 2011 low.
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Germany's Angela Merkel has rejected any suggestion of raising the funding limit of Europe's future bailout fund, the European Stability Mechanism (ESM), sources in her conservative bloc said after a meeting with the chancellor.
The ESM, which will replace the current EFSF bailout fund and should come into effect from the middle of next year, will have an effective lending capacity of 500 billion euros. European Council chief Herman Van Rompuy said Tuesday that a review of whether funding was adequate would be completed in March.
"It continues to show how difficult it is to orchestrate all the moving parts of these different sovereign nations in Europe and try to get them all under one kind of agreement," said John Doyle, currency strategist at Tempus Consulting in Washington.
Discord was also present at last week's European Union summit as Britain shunned an agreement reached by up to 26 EU nations to pursue fiscal integration as part of efforts to tackle the debt crisis. The euro fell as low as $1.3055 on Reuters data , its lowest since Jan. 12, and nearly 2 cents below a session peak of $1.3236. It was last at $1.3083, down 0.8 percent.
Against the yen, the euro slipped to a two-month low of 101.74 on Reuters data before rebounding to 101.93, down 0.8 percent on the day.
"The euro has come a long way to multi-month lows but frankly I am not tempted to take profit," said Neil Jones, currency analyst at Mizuho Corporate Bank in London. "I am not certain what future euro negatives lie ahead. I am just certain there will be more."
The dollar was little changed at 77.87 yen
The Federal Reserve is holding its final policy meeting of the year but is likely to hold off offering the U.S. economy fresh stimulus at a meeting on Tuesday as it weighs encouraging signs on the recovery against risks coming from Europe. An announcement is expected around 2:15 p.m. (1915 GMT)
But it is expected to make some finishing touches to its communication strategy. Many analysts expect the Fed to wait until a two-day meeting on Jan. 24-25 before launching any new initiatives
Analysts said that while further downgrades were partly priced into the market, the impact of any cuts would vary across the region. A cut to France's triple-A status could threaten the top-notch rating of the region's bailout fund and weigh heavily on the euro.
"Absent any commitment from the European Central Bank to buy more sovereign debt, I think the outlook remains weak for the euro," said Brian Dolan, chief strategist at Forex.com in Bedminster, New Jersey.
"So now we're just waiting for the ratings agencies to see if they come in with downgrades. A downgrade to the EFSF would really hurt, because if that loses AAA, sovereign wealth funds in China and elsewhere would not be able to buy that debt," he said.
Moody's Investors Service said Monday it intends to review the credit ratings of all 27 EU states in the first quarter of 2012, while Fitch Ratings said pressure on their ratings had risen after the summit yielded no "comprehensive" crisis solution. Standard & Poor's last week warned of possible downgrades of 15 euro-zone countries as well as the region's 440-billion-euro rescue fund -- the European Financial Stability Facility (EFSF). French President Nicolas Sarkozy prepared voters on Monday for a possible downgrade of the country's AAA credit rating.
Analysts said market liquidity was thin ahead of year-end holidays, which may hurt demand in sales of Italian and Spanish bonds Wednesday and Thursday. Weak results would add to pressure on the euro. (Reporting By Wanfeng Zhou; Additional reporting by Steven C. Johnson; Editing by Jan Paschal)