* Euro hits six-week high vs dollar
* Higher money market rates lend support to euro rise
* U.S. congressional negotiators reach budget deal
By Gertrude Chavez-Dreyfuss
NEW YORK, Dec 11 (Reuters) - The euro rose for a seventh straight session against the dollar on Wednesday, driven by a combination of higher money market rates and a growing belief that the European Central Bank will keep interest rates low for some time but not cut them.
Overnight lending rates have been creeping higher the last few sessions, as banks have paid back long-term funding lent by the ECB at the height of the euro zone debt crisis.
In addition, two-year swap rates have risen as the ECB has shown unwillingness to ease monetary policy despite low inflation.
Joe Manimbo, senior market analyst at Western Union Business Solutions in Washington, said higher short-term rates have indeed enhanced the appeal of the euro but noted that much of the euro’s outperformance has been a function of investors reducing short positions.
Overall he said the euro zone still “faces a long road to recovery,” citing recent weak economic data, particularly in France, the euro bloc’s second-largest economy. French industrial output numbers released on Tuesday showed a decline for a second straight month.
In midday New York trading, the euro was up 0.2 percent against the dollar at $1.3794, after hitting a six-week high of $1.38. So far in 2013, the euro has gained 4.5 percent versus the greenback, on track for its best yearly gain since 2007.
Against the yen, the euro was down 0.2 percent at 141.18 yen . It was up more than 23 percent versus the Japanese currency so far in 2013.
The euro has also been supported by European banks repatriating funds to shore up their capital bases before an ECB Asset Quality Review (AQR).
Simon Smith, head of research at FxPro, said the euro could hold “around the upper 1.30s level” early next year. It might weaken after the AQR, but Smith expects it to fall less against the dollar than other currencies when the Federal Reserve begins slowing its huge bond-buying program.
One-year risk reversals - which compare demand for options on a currency’s rising or falling - show a bias for euro puts, or bets that it will weaken. That suggests many speculators think the rally will not last.
The dollar, meanwhile, slipped 0.1 percent against a basket of currencies to 79.85, and fell 0.5 percent versus the yen to 102.36.
The greenback has weakened in recent sessions on the view that the Fed will not reduce its economic stimulus until early next year. James Bullard, the St. Louis Fed president, however, has kept the window open for a small amount of tapering this month.
Still, when the Fed does decide to scale back its bond purchases, any upside for the dollar could be limited since that move has long been expected. Moreover, when the Fed does taper, it would be small comfort for the greenback as short-term interest rates are likely to stay low.
But one ray of hope for dollar bulls is a two-year bipartisan budget deal reached in the U.S. Congress aimed at avoiding another government shutdown.
“A complete avoidance of a repeat of the October showdown and shutdown over the budget and debt ceiling can only be seen as dollar-positive as it will put the Fed on a faster track toward the taper,” said John Hardy, head of FX strategy at Saxo Bank in London.
He wondered whether the Fed’s December meeting next Tuesday and Wednesday could set up a January taper move.
The Swiss franc, meanwhile, hit a seven-month high against the euro, which fell to 1.2201 francs. The euro was little changed at 1.2217 francs