Euro's Data-Fuelled Rally Won't Last. By Nicholas Hastings

Euro gains from Thursday's strong euro-zone gross domestic product data will not last.

For a start, the data are hardly as positive as they appear. The improvement - largely in the German and French economies - has come from government-engineered car sales and falling imports.

While the former won't last the latter indicates only the softness of domestic demand.

As Costa Brunner, euro-zone economist with Natixis Investment Bank in Frankfurt, said: "What will happen if the scrap bonus in Germany [budgeted at EUR5 billion] and elsewhere is exhausted? A setback is very likely to occur in the course of 2010."

Brunner was referring to the scrappage program in which the German government pays consumers to replace their old car with a new one.

Other economists question the contribution to growth from trade. While German exports may have weathered the recent rise in the euro, because their high-end goods tend to face less foreign competition, those from other euro-zone countries such as Italy and Spain aren't so insulated.

Imports also paint a questionable picture about recovery. Take France. Exports may have risen 1% in the second quarter, but imports fell 2.3%.

This will hardly reassure investors that the smaller-than-expected 0.1% contraction that took place in the euro-zone economy between April and June is sustainable.

Michael Sneyd, currencies economist with Barclays Wealth, questions how long the higher German spending will last once measures to encourage firms to keep their staff expire.

Certainly other data earlier this week fail to match the optimism of the GDP number, with industrial production for the region as a whole falling by 0.6% in June, erasing the 0.5% gain that had been registered in May.

So taking a bullish view of the euro on the basis of the GDP figures looks ill advised.

Sure, they may indicate that the recession in the euro zone is coming to an end, as it is in most other major economies. However, the euro zone itself is still likely to lag well behind other major economies, including the U.S. and the U.K., leaving interest rate differentials widening in favor of the dollar and the pound.

Neil Mellor, a senior currency strategist with Bank of New York Mellon in London, suggested that investor appetite for the single currency is already limited with the bank's custodial flow data showing little support from the so-called "real" money investors.

In fact, he said, the flows show that foreign investors sharply reduced their net holdings of both fixed income and equities in Germany, France and Italy at the start of the month with net selling accelerating in the last few days.

Thus despite, the euro's recent gains, which could yet take it back to around $1.44, some forecasters are still looking for a correction with the euro heading down to its March lows around $1.25.

Early Friday in Europe, the euro was easing back a little as another dive in Chinese shares combined with Thursday's disappointing retail sales figures from the U.S. to rattle confidence in the global recovery.

The single currency fell to $1.4274 by 0645 GMT from $1.4282 late Thursday in New York. It was also down at Y135.94 from Y136.24.

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The dollar was also down at Y95.20 from Y95.36 as risk appetite subsided once again and safe haven currencies were back in favor.