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Dlr on the backfoot as shares fall; oil surges

LONDON - The dollar fell to one-week lows versus a basket of major currencies on Friday, weighed by stock market losses and record high oil prices, although slightly improved sentiment on the financial sector limited its decline.

Credit market jitters were soothed slightly by a New York Times report that the U.S. government is considering taking over U.S. mortgage agencies Fannie Mae and Freddie Mac if their condition worsened, with some analysts saying such action could finally mark the bottom for the troubled financial sector.

"If it's true that the worst-case scenario is that they get taken over by the government, then you know what the worst case is as they are not likely to go under," State Street FX strategist Lee Ferridge said.

Others, however, said the fact that things may have got so bad as to require a government bail-out should not be seen as a long-term positive for the U.S. economy, stocks or the dollar.

"It will be positive because it will avoid any bankruptcy, but ... at the end of the day someone will have to pay for it, so I am not sure it will be a good solution," Carole Laulhere, currency strategist at Societe Generale in Paris.

The euro was up 0.1 percent at $1.5806 by 1059 GMT, having hit a one-week high earlier at $1.5824 and back near the top end of the $1.5300 and $1.5910 range that it has been trapped in for the past two months.

The dollar index steadied at 72.511, having hit a one-week low of 72.368. The dollar was flat at 107.03 yen.

Oil surges, data watched

Soaring oil prices played into dollar sentiment as the cost of crude surged to a record $145.98. U.S. stock futures pointed to a lower Wall Street open on Friday, despite General Electric Co's in-line second-quarter profit.

As well as stock markets and sentiment on financials, the dollar is likely to take its cue from U.S. data on Friday, with the Reuters/University of Michigan preliminary July consumer sentiment expected to fall to a fresh 28-year low of 55.5.

"Another drop, especially if accompanied by a jump in inflation expectations could put the dollar on the defensive on stagflation worries," JP Morgan said in a research note.

Rising inflation -- in part fanned by energy prices -- prompted the European Central Bank to hike rates to 4.25 percent last week, giving the euro its biggest yield advantage versus the dollar in its 9-1/2 year life.

ECB President Jean-Claude Trichet said on Thursday that euro zone inflation, which is running at a record 4 percent, will remain above the central bank's desired level for longer than first expected. The ECB targets inflation of just below 2 percent in the medium term.

Calyon said in a research note that analysis suggested "a sustained high inflationary environment is negative for the dollar whilst the euro outperforms".