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. Last Updated: 07/27/2016

EMU Tensions Propel Dollar, Markets Drop

LONDON -- The Deutsche mark dropped against the dollar and pound sterling Monday, hit by jitters over the European single currency, while European markets fell, preoccupied by domestic issues.

London stocks were well down as strong economic data revived fears of higher interest rates. Frankfurt, which made early gains, ran out of steam and floor trade ended with losses, with after-hours deals tumbling by more than 1 percent.

The main action was in currency markets, where nerves over European economic and monetary union, or EMU, drove the dollar up by almost a pfennig to 1.7465 marks, a 40-month peak, before it fell back slightly.

Sterling also rose to a five-year high against the German currency.

Traders moved in on safe haven currencies after a rift within German Chancellor Helmut Kohl's ruling alliance over EMU widened on the weekend with one of his partners raising the prospect of leaving the coalition.

"We are continuing to see this structural desire to shift out of core EMU currencies into alternatives," said Shean Shepley, international economist at CS First Boston.

The German dispute pits members of Kohl's Christian Democratic Union against its Bavarian sister party, the Christian Social Union, and above all Bavarian Premier Edmund Stoiber.

Stoiber is calling for a delay in monetary union if the entry criteria is weakened. He has threatened to block German membership of EMU in the upper house of parliament unless the criteria is strictly met.

"Europe has big problems to get over, and the way the politicians are going about it is not very constructive," Shepley added.

The dollar eased back to 1.7420 marks, along with a weakening Wall Street, after a higher-than-expected reading in the Chicago Purchasing Managers Index for June and a rise in U.S. single-family home sales in May.

With the German currency already vulnerable over EMU, sterling was given an added lift, reaching 2.9042 marks, when stronger-than-expected British data on consumer credit fueled chances of an interest rate increase.

In equity markets, London opened higher but turned negative to make sharp losses as -- in contrast to currency markets -- the prospects of higher British interest rates had the effect of depressing stocks.

Investors were also becoming increasingly worried about the potential for bad news in the new Labour government's budget on July 2 amid talk that it could cut dividend tax breaks for pension funds.

"All these figures do is continue to excite the fear over the policy mix we are going to get," said Andy Hartwill, equity strategist at SocGen. Hartwill said there was scope for a "relief rally" after the British budget, but that a poor economic backdrop for the second half made him cautious over the market's outlook.