Reuters is running a headline which says French auditor says France must cut debt, deficit levels, or risk a ratings downgrade.

EUR/USD has eased a bit from from session highs of 1.3774. It trades now at 1.3753.

EUR/USD is in the midst of short-squeeze this morning as speculation of a rescue package for Greece and efforts at pension reform by the debt-laden country are announced. The pension reforms are key as they would ban early retirements and raise the retirement age.

Central banks have been selling into strength already after buying heavily on the 1.36-handle. Despite those sales, we’ve overcome the 38.2$ retracement of the drop from 1.4027 to 1.3585 at the 1.3754 level. 1.3806 is the 50% retracement of that same drop.

Look for bids on pullbacks to the 1.3715 area near-term.

• Spanish deputy ecomin Campos: Not concerned about Greek contagion, a short-term factor; funding costs falling despite wider spreads
• Fed’s Bullard: Fed should sell assets before raising rates; sales could come later in 2010
• Fed’s Yellen: China stuck with US monetary policy until it ends currency peg
• US equities slide late in session; S&P 500 falls 0.9%; European shares closed up more than 1%; Down closes below 10,000 for first time since November
• US yields close essentially unchanged; 2-year notes at 0.77%, 10- year 3.57%
• Gold closes on session lows at $1063; oil rises 0.50 to $71.73

EUR/USD attempted to rally several times during the European and US sessions but repeatedly stalled at the 1.3715 level. The last stall came in early afternoon in New York and it prompted short-term spec accounts to unwind short-term long positions. A UK and a Swiss name were aggressive sellers as prices slid back below the 1.3700 level.

European banks remain heavily pressured due to exposures across the Club Med countries and bond spreads remain near their wides for the crisis in Spain, Portugal and to a lesser extent Greece.

AUD/USD attempted a rally again today but was unable to match Friday’s 0.8718 high and sold off heavily after that. It closes the day at 0.8645.

USD/JPY was rock steady during the US session with most of the day spent on the 89.30 handle.

Cable tried to reverse the big sell off seen in Asia overnight which carried through to London this morning. From 1.5535 lows we rallied as high as 1.5660 just ahead of the London close. We lost those gains in the afternoon as dollar strength resumed, pushing cable down to 1.5600 at the close. BRC retail sales data and RICS house price data will be an focus on Asia tonight.

With a bit over 30 minutes left to trade, US equities have turned lower and now trade down about 0.5%. EUR/USD has traded with a heavy tone for much of the afternoon with leveraged accounts selling once we slipped back below the 1.3700 level. We trade now at 1.3665, consolidating last week’s losses.

Let’s, just for the sake of argument, play a game of what if…

What if the EU came up with a watered-down rescue of Greece. One rumor making the rounds earlier today was that the EU or the Eurogroup would guarantee the short-term debts of Greece, perhaps buying them a years time to get their economic house in order.

A package of any sort would likely give the euro a short-term lift as the market sits quite short at the moment. But as today’s price action has shown, there are still ready sellers on rallies.

I think the topside levels to watch are the 1.3850/1.3885 area. A sustained break of that area could see a move to 1.4025. A failure to even challenge the downtrend in place from 1.4582 from mid-January now at 1.3885 would signal susutained weakness to come.

The stronger the package, the stronger the EUR/USD rally, as it would indicate that Europe is finally taking on a federal form after years of loose confederation. I anticipate baby steps, rather than radical reform, however.

US monetary policy is likely excessively stimulatory for Hong Kong and China and Hong Kong and China are concerned that US monetary policy could fuel asset bubbles.  China is stuck with US monetary policy because of its USD peg, Yellen said. Adjustments to China’s exchange rate policy are all but inevitable, but China is unlikely to adjust exchange rates until mid-2010, she said.

In other words, “get your own damn monetary policy!”

Traders blame a Swiss banking giant for leading the latest round of EUR/USD seales, pushing it back down to the 1.3680 level. 1.3715 continues to strengthen as resistance after contaiing several rallies throughout the Monday session.

BOC deputy governor Duguay repeats that the BOC will hold rates steady at least until the end of Q2. A strong CAD and lo US demand remain substantial drags on the economy, Duguay said.

Traders report having to buy several hundred EUR/USD in the last little while and they have come without difficulty.

EUR/USD trades with an easier tone, now at 1.3690 after rallying as high as 1.3712 as Europe squared up for the day. 1.3622/1.37147 is the range all day and it looks like it may stay that way barring a big rally is risk assets this afternoon.

US equities trade modestly firmer on the day, up about 0.1%.

Spanish deputy econmin Camapa says Spains funding costs are falling despite widening yield spreads because interest rates have fallen so far. He’s got a point. 2-year German notes are at the same yield as overnight depos, 1%. He says he believes that S&P will view Spain’s fiscal austerity plan positively.

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