• Fed Comments to Continue to Drive Dollar Rally
• Surprise Weakness in UK Trade Data Exacerbates Pound Sell-off
• Yen Traders Shrug Off Strong Data

US Dollar - It was another great day for the US dollar, which gained strength against all of the major currencies.  Much like yesterday, there was little to drive the move with only the minutes from the Federal Reserve's September 20th meeting on deck.  Like we expected, the minutes delivered no new surprises.  FOMC members were wary about growing inflation pressures going into the meeting and believed that that before Katrina, employment and growth were growing at a healthy pace.  As for Katrina, they were uncertain about the significance of the impact * which recent data suggests was limited.  The overall optimism in the dollar continues to drive momentum in greenback despite external pressures such as rising oil prices.  The market seems to have made a test of the October highs against the euro its goal for the moment.  It remains to be seen though how much longer the US consumer can hold out in the face of rebounding oil prices, higher interest rates and a slowing housing market.  Although we have another quiet day economic data wise tomorrow there are a number of Fed officials scheduled to speak on various topics related to the economy.  Fed Chairman Greenspan is slated to speak on Economic Flexibility while Fed Presidents Kohn, Olson and Bies will be speaking on globalization, inflation, the economy in general and fiscal policy.  We expect Federal Reserve officials to jump at this opportunity to pat themselves on the back for downplaying the significance of Hurricane Katrina and the need to continue to be vigilant in the face of growing inflation pressures.  So what does this mean for the dollar?  At this point, 1.1900 looks very much at risk. 

Euro - Europe is abuzz with economic talk today. Germany released its September wholesale prices which rose, far more than expected, marking the largest increase in 15 years, largely due to high oil prices and tobacco taxes.  France released its trade balance for August, posting a narrowed deficit of EUR2.363 billion a bit higher than expected, improving over the revised July number of EUR2.537 billion as exports rose faster than imports, due to increasing international demand with the deflation of the Euro.  Two major events also occurred in the debate over interest rates. In their meeting, EU finance ministers and central bankers clashed over the risk posed by inflation.  President Trichet of the European Central Bank continued to warn of "second-round effects" of rising energy costs such as higher wages despite the arguments. Meanwhile even though Merkel was elected as Chancellor, turmoil still seems to be brewing in Germany.  It now appears that the SDU will be controlling the majority of the seats, which in essence diminishes Merkel's power.

British Pound - The British Pound is much weaker against the dollar today following unexpectedly negative trade data.   The visible goods trade deficit widened to a record to GBP 5.621 billion in August from a revised GBP5.521 billion in July.  Economists had predicted that the balance would actually narrow a bit to - GBP 5 billion.  Not including trade with the 25 European Union countries, the increase of the deficit even further outpaced expectations, standing at GBP3.46 billion for August, from a revised GBP2.604 billion in July.  Again economists expected the balance to narrow here as well.  This widening was fueled by the fact that in August, the UK actually imported more oil than it exported for the first time in almost a year.  Exports expanded by 3.7% in August, while imports rose 3.3%.  Given this information, economists do not see this news as being as negative as it seems, being that record oil prices somewhat distorted these numbers and the British government is relying on exports to boost slowing economic growth.  Also, in statements this afternoon, Bank of England governor Mervyn King affirmed his opposition to lower borrowing costs.  He commented that inflation in the UK will be above the target for awhile but that monetary policy should not be set to boost economic growth in the short run because it cannot guarantee a constant rate of growth for output.  King feels that the immediate question is how to deal with the rebalancing and slowdown of the economy along with rising inflation and oil prices and realizes that during a rebalancing, inflation and output will be volatile but the MPC can do little to prevent this.  He also warned that raising wages in order to fight against lower purchasing power might only increase unemployment.

Japanese Yen - The Japanese yen has weakened significantly against the dollar over the past few weeks, with USD/JPY currency pair trading above its one year high.  The growing interest rate differential against the dollar continues to dictate the pair's price action as yen traders shrug off very positive economic data. Machine orders in August jumped 8.2% from July, far outpacing the prediction of 2.5%, and far better than the drop of 4.3% from June to July.  This is the biggest rise since October 2000.  Orders from the same month last year jumped 13.4% versus an expected 7.7%.  Machine tool orders rose 2.2% from September 2004.  Japanese companies spent August opening and equipping new factories as the country's economy expanded after a series of recessions.  Machinery makers, especially those supplying the automobile industry and companies making liquid-crystal displays, are increasing profit forecasts.  This signals expectations of expansion for the fourth quarter as well as capital spending growth.  There are also forecasts that the deflation seen in the Japanese economy for more than seven years may come to an end this year, allowing the Bank of Japan to change its four and a half year old monetary policy.  The Eco Watchers survey for September also rose to 51.7 from 50.5 while the outlook for September also rose to 53.1 from 51.9.  The survey polls people working in industries close to consumers such as barbers, taxi drivers, waiters, etc. on the general business sentiment.  A reading above 50 signals expansion and Japan now has seen a sustained expansion sentiment from this index since April when it hit the 50 marks.  The higher confidence in the economy as well as a prediction of growth by the average consumer shows that the economic growth is being felt at all levels of the economy.  This will spur continually growing consumer spending and therefore capital investment.

Kathy Lien is the Chief Currency Strategist at FXCM.