Written by Tom Westbrook

SINGAPORE (Reuters) – The dollar headed for its biggest weekly decline against the euro in two-and-a-half months on Friday as signs of slowing inflation and a slowing U.S. economy raised the prospect of an interest rate cut.

The euro rose 0.9% against the dollar this week, breaking through resistance around $1.0855 and trading at a high of $1.0895 in the wake of slowing inflation in the United States.

The last price was $1.0861. Annual US inflation numbers for April were in line with expectations, but since they were lower than the previous month, they encouraged confidence in the Fed's ability to cut interest rates in September and December – leading to higher Stock and bond prices and pressure on the dollar.

US retail sales were also flat in April and were weaker than expected, and manufacturing output fell unexpectedly.

“(Along with inflation) a lot of activity data fell,” which contributed to the dollar selling, said Emery Spizer, a strategist at Westpac.

At the same time, although markets are pricing in European interest rate cuts starting in June, recent data has shown some upside surprises. The German economy grew more than expected in the last quarter and investor sentiment rose to its highest levels in two years.

The Australian and New Zealand dollars are up more than 1% against the US dollar this week, with a 1.7% gain and looking ahead to their best week of the year. (Australian dollar/)

At $0.6675, the dollar fell from a four-month high as a surprise rise in unemployment numbers appeared to limit any risk of another hike in interest rates.

The New Zealand dollar last settled at US$0.6120 as traders looked ahead to next week's central bank meeting, where the official interest rate is expected to remain at 5.5%.

The British pound rose 1.1% this week to $1.2664. The Japanese yen was broadly stable at 155.48.

In cryptocurrency markets, Bitcoin rose 6.6% this week to $65,343.

China's retail sales and industrial production data are due later in the session, and later on Friday the final European CPI numbers will be published.