Europe stocks hold steady, euro hostage to ECB decision

LONDON (Reuters) - European shares held steady and the euro hovered near four-month lows against the dollar on Thursday, with the common currency hostage to expectations the European Central Bank will ease monetary policy to support a fragile economic recovery.

In anticipation of lower interest rates, some euro zone government bond yields fell. This helped push the premium that two-year U.S. government debt offers over euro zone benchmarks to its widest since 2007.

In one of its most keenly awaited decisions in years, the ECB is expected on Thursday to impose negative interest rates.

Economists in a Reuters poll forecast the ECB would cut its main refinancing rate to 0.10 percent from 0.25 percent and its overnight deposit rate to -0.10 percent from zero. It may also launch a program of loans to banks to encourage lending.

The consensus view that the central bank will act is so strong that analysts see scope for market disappointment if it fails to meet these high expectations.

ECB President Mario Draghi has expressed concern that a strong euro is contributing to a slowing of inflation that could derail the recovery in the 18-country euro zone.

Steve Barrow, G10 strategist at Standard Bank, said in a note ECB officials would "have their fingers crossed" for a weaker euro but that the outcome was not certain.

"Achieving a weaker euro means fighting two enemies: economic fundamentals and market lethargy. Put the two together and the chances of significant success for the ECB seem limited," he said.

The euro held steady at $1.3600. It has fallen some 4 cents since the ECB's May meeting, hitting $1.3588 a week ago.

However, some in the market said the euro could rebound if the ECB did not offer a surprise.

"Investors could cut some of their euro shorts helping euro/dollar higher towards $1.3700 if the ECB delivers but does not exceed market expectations," said Valentin Marinov, currency strategist at Citi.

DOWNSIDE RISKS

The pan-European FTSEurofirst 300 share index <.FTEU3> was up 0.02 percent at 05.45 a.m. EDT in very low volumes as investors moved to the sidelines before the ECB meeting.

"Stocks seem capped at the moment and risks are mostly on the downside if the ECB doesn't deliver. It's very difficult to predict what the new measures will be. It's best to be neutral equities right now," said Arnaud Scarpaci, fund manager at Montaigne Capital in Paris.

Wall Street stock futures were down a shade, though the ECB decision, due at 7.45 a.m. EDT, and any announcement bank chief Mario Draghi might make in his news conference beginning at 8.30 a.m. EDT should be clear before the U.S. market opens.

Also on Thursday, leaders of the world's leading industrial countries were meeting Paris for talks on the economy.

The talks are expected to reiterate that all members of the Group of Seven must focus on sustaining economic recovery and tightening regulations to prevent banking sector problems.

Asian shares edged higher, shrugging off a fall in HSBC/Markit's measure of Chinese service sector activity. It dipped to 50.7 in May from 51.4 in April but stayed above the 50-point level that divides growth from contraction. [ID:nL3N0OL12J]

MSCI's broadest index of Asia-Pacific shares outside Japan <.MIAPJ0000PUS> rose 0.3 percent.

Japan's Nikkei <.N225> ended 0.08 percent higher at 15,079, a near three-month closing high as yen weakness lifted the mood.

Emerging markets shares measured by MSCI <.MSCIEF> were up 0.2 percent.

Trading volumes on Wall Street were light before the ECB meeting. The S&P 500 index <.SP500> edged up to a new record close as investors brushed off weaker-than-expected jobs data and focused on an acceleration in service-sector growth [.N]

The dollar index <.DXY>. which measures the greenback against a currency basket, held steady. The U.S. currency eased 0.3 percent to 102.46 yen <.JPY>.

U.S. Treasury yields came off overnight highs as investors took profit on a recent rally before the ECB meeting. Ten-year yields were last at 2.58 percent.

In commodity markets, copper edged up after suffering its biggest one-day fall since mid-April amid jitters about the impact on financing deals from a probe at a Chinese port.

Benchmark copper was changing hands at $6,775 a ton, having shed 1.2 percent on Wednesday.

Gold idled at $1,244.30 an ounce

Brent crude eased to $108 a barrel on reduced tension in Ukraine and ample supply in the United States.

(Additional reporting by Wayne Cole in Sydney, Jamie McGeever, Anirban Nag and Emelia Sithole-Matarise in London and Blaise Robinson in Paris; Editing by Gareth Jones)

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