• Reissuance of 30-Yr Bond is Propping Up the Dollar
• Euro Weakens on Softer Economic Data
• British Pound Extends Losses on Fear that BoE May Still Lower Rates

US Dollar
The US dollar extended Friday's gains thanks to some positive comments from Fed President Fisher.  As we begin the new week, the market is very optimistic about interest rates with the Fed fund futures contracts now putting the odds for a March hike at 90 percent and another hike in May or June at 60 percent.  Confirming US Treasury Secretary Snow's recent comments, Fisher who is a non-voting member of the FOMC this year, believed that the dismal 1.1 percent growth that we saw in the fourth quarter will most likely be revised higher. If this is really the case, then some of current dollar optimism is justified.  Meanwhile President Bush announced a $2.7 trillion budget for the 2007 fiscal year which begins in October.  In his projections, the deficit is expected to shrink from $360 billion predicted for this fiscal year to $355 billion.  Although the Bush administration still has plans to halve the budget deficit by 2009, the fear that interest expense could increase due to rising financing costs has some believing that the projections may be a bit too optimistic.  One of the market's major focuses this week will be Thursday's $14 billion dollar reissuance of 30-year bonds, which has been necessitated by budget deficits.  Strong demand expected at the auction could keep the dollar bid with one wrinkle - the demand for longer dated bonds has also caused a deeper yield curve inversion with the 2-10 spread widening to 3.3 basis points. This has perked up the radar for some recession watchers. However, we know that the market is very much siding with the dollar at the moment, since it managed to shrug off any geopolitical risk that could be stemming from the IAEA's recommendation of Iran to the UN Security Council about its nuclear program. 

Euro
With across the board disappointments in Eurozone economic data and hawkish comments from the Federal Reserve, it is no surprise to see the Euro weaker for the second consecutive trading session. Bloomberg's retail PMI index for the entire Eurozone slipped below the 50 expansion/contraction threshold to 49.7 for the month of January.  Even though French retail PMI took the biggest dive from 51.5 to 46.2, a slowdown in the expansion was also seen in Germany (51.7 to 50.4) and Italy (53.7 to 53.2).  Consumer spending in Europe has only recently showed signs of a recovery.  The latest fall in the index suggests that once again, consumers are not spending.  Yet the disappointments do not stop there. German factory orders also fell 1.6 percent in December, bringing the annualized pace of growth to 3.9 percent.  This was far below the market's 6.0 percent yoy forecast.  Some optimists were downplaying the weakness citing significant strength in the past 3 months of releases.  Either way, today's data releases puts to question whether the economy can really withstand another rate hike.  Yet this all doesn't seem to matter since ECB President Trichet pretty put his stamp of approval on a March rate hike last week. Which means that for the time being, losses in the Euro could still remain limited. 

British Pound
The British pound took a rather deep slide today as various newspapers talked up the need for another rate cut by the Bank of England.  The Evening Standard called for another rate cut this week while the UK Sunday Times highlighted the division within the UK's Monetary Policy Committee.  The Bank of England however will most likely be keeping interest rates unchanged again at 4.50 percent.  The big question that will not be answered until the minutes of the meeting are published on February 22 is whether any other member will join Steve Nickell in voting in favor of another interest rate cut.  Kate Barker has the potential to shift sides as she recently described the interest rate decision as finely balanced, adding that "there are question marks about whether the pace of growth is going to prove strong enough."  If she does, we could see a new down leg in the British pound. 

Japanese Yen
Surprisingly, the Japanese Yen was the only currency pair that managed to hold relatively steady against the US dollar.  After the past two week's rally that extended from 114.16 to 119.39, we are finally seeing what may be signs of exhaustion below the psychologically important 120 level in USD/JPY.  The only piece of economic data released today was leading economic indicators which increased to 80 percent from 54.5 percent.  The accompanying coincident index also jumped from 70 percent to 100 percent.  Views on the economic outlook has been relatively upbeat lately but that has done little for the Japanese Yen with the government's fierce opposition to increase interest  rates forcing the Yen to struggle to register any gains.  Therefore the Bank of Japan's monetary policy meeting later this week should be a nonevent even if consumer confidence and household spending come out stronger later this week.

Kathy Lien is the Chief Currency Strategist at FXCM.