US Dollar
The minutes from the last Federal Reserve meeting was hawkish, yet the dollar is struggling to rally. This tells us that those who want to be long dollars for carry and yield are already long while the rest of the market is more interested in countries that will be raising rates instead of leaving them steady. Even though the minutes say that “further policy firming might prove necessary,” at best, the Federal Reserve will leave interest rates unchanged at 5.25 percent for the next six months as uncertainties in growth and inflation make it nearly impossible to raise rates. Comments from Fed Presidents Lacker, Mishkin, Fisher and Plosser have all been hawkish, confirming that rates will not be reduced anytime soon. At this point, Fed fund futures are only pricing in the probability of one interest rate cut this year. Steady rates could continue to drive demand for US dollars against the Japanese Yen, but against the Euro, British pound and Australian dollars, the greenback could under perform. All three of these central banks are expected to raise interest rates at least once this year. If theUK raises rates, they will once again have a higher yielding currency than the US. Australia will see an even greater yield differential to their favor while the Eurozone will narrow its yield disadvantage against the US. This is a carry seeking world and for the time being, there are more attractive carry opportunities elsewhere. The only piece of US data released today was the monthly budget deficit, which increased from -$85.3 billion to -$96.3billion. Looking ahead, we are only expecting jobless claims and import prices tomorrow - the rise in oil prices last month is expected to drive import prices higher.

Euro
Euro bulls are holding back until they hear from the horse’s mouth (ECB President Trichet) that rates will continue to be increased over the next few months. In order for the EUR/USD to make a run for its all time high of 1.3667, we need to hear some strong words from Trichet. Not only does he need to suggest to the market that rates will be increased in May, but he also needs to indicate that rates will be increased beyond that as well. The hesitancy of the market reflects the possibility that the central bank President could also take a more dovish stance. Why? Because the EUR/USD is trading less than 1 percent away from its all-time high. As an export dependent region, the Eurozone is particularly sensitive to the value of the Euro. In the past, we have said that the path to a stronger Euro is through a weaker one and now, the path to a weaker one is through a strong Euro. The Euro topped out in December 2004 / January 2005 after a series of disappointing economic data. Although the economy is at a much better place now than 2 years ago, it will not be completely vulnerable to the recent run-up in the currency. One of the central bank’s biggest concerns is inflation. A strong Euro automatically tightens the economy and reduces inflationary pressures, alleviating some of the need for the central bank to be exceptionally hawkish. However should ECB President Trichet pacify the markets by reintroducing the words “strong vigilance” back into his vocabulary, not only will the EUR/USD rally, but expect another record high in EUR/JPY.

British Pound
The British pound was the story of the day as it was one of the few currency pairs that managed to rally against the US dollar. Strong economic data reminded the markets that the Bank of England is still on track to raise interest rates later this year. Leading indicators increased by 0.8 percent in the month of February while the BRC sales monitor jumped by 6.2 percent in the month of March. To go from voting 8-1 to leave interest rates unchanged, with the one dissenting voter rooting for a rate cut in March to a rate hike in April was too big of a jump for the central bank to make. However the votes should have leaned closer to a rate hike in April, paving the way for an actual dose of tightening in May or June. We will know more on this come April 18th, when the minutes from the meeting earlier this month is released. In the meantime, as long as UK data continues to come out strongly, the market will look for higher rates, snapping up British pounds in the process. Meanwhile, the pound also received a boost from an FT story revealing that the Treasury is discussing proposals to allow UK firms to repatriate some of their international profits tax free. This reminds us of the tax holiday offered by the US Homeland Investment Act back in 2004. If passed, it would be exceptionally bullish for the British pound. However, it is only being discussed and has not been passed by the Treasury at the moment, so it could be some time before we actually see the flow.

Japanese Yen
Demand for carry trades continues to be one of the most predominant themes in the currency markets with traders driving EUR/JPY to a fresh all time high and AUD/JPY to a new 10 year high. The Yen has sold off significantly over the past month and is showing no signs of stopping. The market may be underestimating the risks that the upcoming G7 meeting poses. No one expects the G7 to criticize the Japanese for allowing their currency to weaken so significantly so quickly, but we are sure that there will be many sideline discussions about it. If any of these comments are caught by the press, we could see a rebound in the Yen. Japanese domestic capital goods price index is due for release tonight. Inflation is expected to tick higher, but it will not be enough to shift the BoJ’s stance.

Commodity Dollars (AUD, NZD, CAD)
Having rallied significantly over the past month, we are not surprised to see a mild correction on the back of broad dollar strength in the both the Australian and New Zealand dollars today. There were no surprises in last night’s home loans and investment lending reports, but tonight unemployment number could be a big market mover. The labor market in Australia is very healthy but recent disappointments in economic data have analysts forecasting slower job growth. The risk is for an upside surprise, which will drive strong gains in the Aussie as the market will look to at least 6.50 percent rates this year. Meanwhile the Canadian dollar surged to a fresh year to date on the back of strong housing starts in the month of March. Canadian data has consistently surprised the upside. This has kept the currency shielded from the recent drop in oil prices.

John Kicklighter is a Currency Strategist at FXCM.