* Euro hits highest since December 2011 just below $1.35
* Yen moves further away from 2-1/2-year low vs dollar
* Fed meeting, U.S. January payrolls data due out this week
By Wanfeng Zhou
NEW YORK, Jan 29 The euro rose to a 14-month high against the dollar on Tuesday, lifted by an improving outlook for the euro zone and expectations the U.S. Federal Reserve will maintain its ultra-easy monetary policy for the foreseeable future.
German economic data and signs European banks were on the mend boosted hopes that the worst of the euro zone crisis was over, driving the euro up 2 percent against the dollar so far this year.
The euro had earlier rallied to just below $1.35, a key resistance and psychologically important level. Analysts expect the level to eventually break, which would open the door to a rise toward $1.3835.
"Multiple runs (toward $1.35) have been thwarted as a high of $1.3496 was reached, but has been shoved back down with authority," said Neal Gilbert, market strategist at GFT in Grand Rapids, Michigan. "Currently, it appears there is some consolidation below and the market could attempt another break of that level in the second half of trade today."
Analysts said the euro could gain further if the Fed, at the end of its two-day meeting on Wednesday, reinforces expectations for a continuation of quantitative easing beyond this year. Further easing hurts the dollar as it increases its supply.
"Even though last month's meeting minutes showed that Fed governors were divided on whether to continue the QE policy, it is the feeling of most traders that QE will not end during 2013 but rather will continue well beyond that date," said Matthew Lifson, senior analyst and trader at Cambridge Mercantile Group in Princeton, New Jersey.
"If this is the case and the statement from the Fed backs this up, then the pressure on the U.S. dollar will increase," he added.
The euro rose as high as $1.3496 on Reuters data - the highest since Dec. 2, 2011 - and was last trading up 0.2 percent at $1.3481.
It rose above resistance at $1.3486 - its 2012 high - and $1.3492, the 50 percent retracement from the high in May 2011 to the low in July 2012.
Analysts at Action Economics said buying by UK and German names helped drive the euro's latest move higher, adding that proprietary names and an Asian central bank are looking to sell near $1.3500. Defense of the $1.3500 option barrier may also limit the momentum.
Above $1.35, further targets lie around $1.3527, the 200-week moving average, and $1.3833-35, the 61.8 percent retracement of the move down from May 2011 to July 2012, which also coincides with the July 2011 low, according to technical analysts.
The euro briefly rose and hit a session high after data showed U.S. consumer confidence dropped in January to its lowest level in more than a year.
The first estimate of U.S. fourth-quarter GDP will be released on Wednesday, two days before the January jobs report. Weak readings on the U.S. economy could add to expectations of continued monetary easing by the Fed and weigh on the dollar.
The dollar dropped against the yen, slipping further away from a 2-1/2-year high hit a day earlier, but analysts said yen weakness will resume as investors look to buy the dollar back at lower levels.
Traders cited demand for six-month yen puts, or bets the currency would fall, from a U.S. investor who bet dollar/yen would rise to 97 yen in six months through option strikes.
The dollar slipped 0.2 percent to 90.64 yen, down from Monday's high of 91.25 yen, its strongest level since June 2010. Traders reported options barriers at 91.50 and 92 yen.
Selling the yen has been mostly a one-way trade since mid-November, based on expectations that Japanese Prime Minister Shinzo Abe would push the Bank of Japan into more forceful monetary easing to beat deflation.
"Should there to be any correction down to 88 yen, it would be a good buy area. The overall trend (for dollar/yen) will be higher, particularly in March-April when we start discussing the new BOJ governor," said Chris Turner, head of FX strategy at ING.
Present BOJ Governor Masaaki Shirakawa, whose term ends in April, is expected to be replaced with a more dovish governor, who could then bring forward any easing, giving further impetus to yen bears.