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Sterling dips ahead of financial stability report

By Jemima Kelly

LONDON, June 25 (Reuters) - Sterling headed for a second day of losses against the euro on Wednesday, ahead of a Bank of England report expected to take measures to cool the housing market and potentially ease pressure to raise interest rates.

The BoE's latest financial stability report, to be published on Thursday, is expected to include recommendations for further controls on mortgage borrowing amid concerns the market is overheating.

Some think that such macroprudential measures will reduce the likelihood of an interest rate hike this year. That has reinforced the slightly softer tone to sterling since BoE policymakers' comments on the economic outlook on Tuesday.

"I think the issue is how much appetite will there be to hold on to long sterling positions into the financial stability report tomorrow," said Daragh Maher, a currency strategist with HSBC in London.

"They're likely to announce a series of measures to calm the housing market ... Macropru measures would be viewed as a substitute for interest rate increases and to that extent therefore would be a sterling negative."

The euro was trading around a quarter of a percent higher against the pound at 80.315 pence, its highest in almost two weeks.

The pound was also slightly down against the dollar, at $1.6979. It hit a one-week low of $1.6952 earlier in the day but recovered slightly after revised data showed the U.S. economy performing at its worst for five years in the first three months of 2014.

The soft U.S. numbers surprised markets, contrasting with data on Tuesday that showed U.S. consumer confidence at its highest since January 2008.

"I suspect after yesterday's better-than-expected numbers perhaps the market got a little bit long of dollars, and that's why we've had a reasonably exaggerated reaction to soft U.S. numbers," said Maher.

With Britain's economy steadily improving, the game on the pound for the past few months has been a to and fro on expectations for when the BoE will deliver a first, potentially small and precautionary, rise in rates.

Money markets suggest many investors expect that to be as early as November. However, a number of analysts and dealers say Governor Mark Carney has muddied the waters after two performances in a week that pushed market expectations on timing first one way then the other.

On Tuesday Carney pushed back slightly against expectations the bank will raise rates before the end of this year, saying the economy still has slack to work through.

Criticism of the governor by the head of parliament's Treasury committee made the front page of the Financial Times on Wednesday.

"Carney did himself no favours at all yesterday. People feel he is flipping and flapping over rates," said one London-based foreign exchange dealer.

"As a central banker you should seek to provide clear guidance and a consistent message. This guy is not giving that at the moment. The net effect today anyway is that people are less sure about a rate rise by the end of the year."

The outlook for sterling looks positive though compared to the dollar, euro, yen or Swiss franc as markets still expect the BoE will be the first of the four major central banks to raise interest rates. (Additional reporting by Patrick Graham; Editing by Susan Fenton)