(Reuters) - The euro slashed gains on Tuesday to trade flat on the day, pressured by the European Central Bank's failure to attract enough deposits from banks that would neutralize its purchases of bonds from debt-ridden euro zone countries.
Investors took this news to mean that the central bank had effectively launched a round of quantitative easing since it increased the amount of euros in the market.
The ECB was able to drain just over 194 billion euros, short of the 203.5 billion euros in bond purchases. The shortfall was the ECB's first since May.
The pace of the ECB's government bond purchases picked up last week as the bank spent 8.6 billion euros in its ongoing attempt to calm euro zone debt markets.
Some people are suggesting that the ECB's failure to sterilize its bond purchases this week was a sign of quantitative easing, said Marc Chandler, global head of currency strategy at Brown Brothers Harriman in New York.
In early New York trading, the euro was little changed on the day at $1.33142 after rising nearly 1 percent on the day to a session high of $1.34426 initially on hedge fund buying.
The euro was earlier boosted by an Italian auction that managed to sell government bonds to the market, even though Italy had to pay record high yields of nearly 8 percent. Italy managed to sell 7.5 billion euros in three- and 10-year government bonds.
The auction though was overshadowed by news on the ECB operations, which had prompted speculation of quantitative easing. Some analysts including Brown Brothers' Chandler believed that this was not easing at all, adding that this imbalance must occur on a continued basis to be considered monetary easing.
If we see a chain of shortfalls, or if that shortfall grows, it would be de facto quantitative easing, said Adam Myers, currency strategist at Credit Agricole CIB.
But it's not QE based on this one event.
Brown Brothers' Chandler said the shortfall in bank deposits could be attributed to other factors including the low yield or the tenor of the instrument.
MORE EURO RISKS
Investors were wary of holding too many euros before European policymakers are expected to approve details for scaling up the EFSF rescue fund later in the day. Policymakers are also expected to release a vital aid lifeline for Greece.
Strategists warned that the euro remained vulnerable to selling unless investors see concrete action, given they have been disappointed by officials in the past.
Germany and France are reported to be aiming to outline proposals for a fiscal union before a European Union summit on December 9, which a growing number of investors see as perhaps the last chance to avert a breakdown of the common currency area.
The euro showed little reaction to a report on French newspaper La Tribune's website saying Standard & Poor's could change the outlook for France's triple-A rating to negative within the next 10 days.
Perceived riskier currencies rallied on higher equities and the Italian auction results.
The Australian dollar climbed nearly 2 percent to US$1.0078, before pulling back to US$0.9991 after it was unable to break above technical resistance seen around the 21- and 55-day moving averages around US$1.0096-8.
The dollar fell broadly, falling 0.3 percent versus a currency basket .DXY, as earlier gains in the euro had dragged most other major currencies higher against the safe-haven U.S. currency.