Solid U.S. and euro zone data and an upbeat assessment on the economy from Federal Reserve Chairman Ben Bernanke over the weekend earlier pushed investors to take on riskier investments at the expense of the the low-yielding yen and dollar.

“Conventional wisdom suggests that major currencies should trade within their recent ranges until liquidity improves after the Labor Day holiday,” said Wells Fargo currency strategist Vassili Serebriakov. “However, there is plenty of data in the U.S. and elsewhere to change that this week, with consumer-related numbers likely to be watched closely.”

Investors are looking ahead to upcoming U.S. and European data to confirm hopes that the world economy is improving.

The dollar was last up 0.1 percent at 94.49 yen while the euro slipped 0.1 percent to $1.4304 . Against the yen, the euro was unchanged at 135.20 yen .

The euro trimmed losses against the greenback after data showing much higher-than-expected euro zone industrial orders in June.

Sterling fell 0.6 percent on the day at $1.6405 .

The euro , meanwhile, hit an 11-week high against sterling at 87.27 pence, according to Reuters data.

Traders said the euro was pushed past a key options barrier at 87 pence, setting up further gains in the pair, while analysts said expectations for persistently low UK interest rates were weighing on the British currency.

The Federal Reserve’s Jackson Hole meeting over the weekend offered a variety of opinions about the global economy, with Fed Chairman Ben Bernanke acting as the cheerleader for growth.

But traders are keen to see how the euro zone economy fares, especially after higher-than-forecast purchasing managers’ index readings last week. Germany’s Ifo survey of business sentiment will be key this week, analysts said.

The U.S. Conference Board will release its August consumer confidence index on Tuesday, followed by the Reuters/University of Michigan consumer sentiment snapshot on Friday.

Nouriel Roubini, professor at New York University’s Stern School of Business and one of the few economists who accurately predicted the magnitude of the current crisis, wrote in The Financial Times on Monday that there’s still a “big risk” of a double-dip recession.

Allan Meltzer, a political economy professor at Carnegie Mellon University, also told Reuters that the flood of money the Fed and Treasury have injected into the banking sector and economy since the crisis began will soon threaten the dollar.

“Will the Chinese continue to buy the trillions of dollars worth of debt that the Treasury intends to put out every year? We don’t know, but if not, the pressure will be on the Fed to keep buying it, and my guess is that’s going to be inflationary over the next couple of years, and the dollar will suffer,” he said.

Aug 24 (Reuters)

Instead of establishing a new, specific primary interest rate, the central bank’s Federal Open Market Committee (FOMC) voted for a target range – 0.0% to 0.25% – a record low. Before yesterday’s cut, the Federal Funds target rate stood at 1.0%.

Instead of addressing the reason for its peculiar target range, the Federal Reserve opted for canned doomsday language that could have appeared verbatim in any of its previous rate cut announcements: It hasn’t been good. It doesn’t look good. And we’re trying to fix it.

Most cryptically, the FOMC said it “will employ all available tools” to promote economic growth and price stability. But those objectives could take some time to achieve.

“The committee anticipates that weak economic conditions are likely to warrant exceptionally low levels of the federal funds rate for some time,” the Fed said in a statement.

U.S. stocks soared on the Fed announcement, with the Dow Jones Industrial Average gaining 359.61 points, an increase of 4.2%, to close at 8,924.14. The Standard & Poor’s 500 Index jumped 44.61 points, or 5.14%, to finish the day at 913.18. The tech-laden Nasdaq Composite Index jumped 5.41%.

Since September 2007, U.S. Federal Reserve policymakers have cut the benchmark Fed Funds target rate 10 times – taking it from its starting point at 5.25% to the current rate range, hoping it would encourage bank-to-bank lending, as well as bank-to-consumer lending.

“It’s a highly unorthodox and creative step,” Michael Woolfolk, senior currency strategist at the Bank of New York-Mellon Corp. (BK), told Reuters. “We think it’s the best possible move for the U.S. consumer and for the financial market.”

The rate cut announcement dropped onto a cushion of ugly headlines from earlier in the day:

• Consumer prices posted their biggest plunge in 76 years. The U.S. consumer price index (CPI) fell by a seasonally adjusted 1.7%, lead by a 17% decline in energy prices, the Labor Department reported. On a non-seasonally adjusted basis, the CPI fell by 1.9%, the biggest decline since 1932, three years into the Great Depression.
• Yields for 30-year Treasuries fell to an all-time low, Bloomberg News reported.
• Goldman Sachs Group Inc. (GS) reported a loss of $2.12 billion, or $4.97 a share, for its fiscal fourth quarter.
• New building permits and new housing starts hit a record low in November, as permits plummeted 15.6% to 616,000 units from 730,000 in October. Housing starts fell 18.9% to 625,000 from 771,000 in October, Reuters reported.

Joel Naroff, president and chief economist of Naroff Economic Advisors, doesn’t expect the rate cut to do much because banks simply don’t want to lend.

“There is little belief that will do anything as the issue is not the level of rates but the willingness to lend.  It may put a little more pressure on other central banks to ease, especially the Europeans,” Naroff wrote in a note to clients. “But other than that and the reduction in some variable-rate loans tied to the prime, the rate cut will not accomplish a whole lot.”

He added: “With the rate near zero, the Fed is basically out of bullets when it comes to the rate cut weapon so we will see what they say about using other mechanisms to add liquidity.”

Money Morning contributing editor Martin Hutchinson said in a recent column that the Fed’s rate cuts – combined with the government’s $700 billion bailout – will push so much money into the financial system that the final result will be widespread inflation – which is essentially an open invitation to profit from gold.

What Else Can the Fed Do?

With little to no room left to cut rates, Fed Chairman Ben S. Bernanke has signaled that he may employ unconventional ways to restore balance to the U.S. financial system.

The Fed extended the lives of recently initiated programs (lending facilities for investment firms, for instance) and is exploring additional moves (like Treasury purchases) aimed at reviving the credit markets.

Meanwhile, the U.S. Treasury Department is working on a plan to rejuvenate the housing market by slashing mortgage rates to 4.5% on new purchases. Experts say that, at some point, these stimuli must take hold, but that’s not necessarily true.

Many of Bernanke’s plans may be an afterthought on Jan. 20, when President-elect Barack Obama takes office with a different economic team and agenda.

New York Federal Reserve Bank President Timothy F. Geithner will be the new administration’s U.S. Treasury secretary, a role that will give Geithner the reins to what’s left of the Bush administration’s $700 billion bailout.

Former Treasury chief Lawrence Summers will head Obama’s National Economic Council. Analysts say this appointment puts Summers in line to succeed Ben S. Bernanke as chairman of the U.S. Federal Reserve in 2010.

New Mexico Gov. Bill Richardson will take over the Commerce Department, and Congressional Budget Office Director Peter Orszag will head the Office of Management and Budget.

Source: Fed Slashes Interest Rates to a 0.0% to 0.25% Target Range … But Now What?

Bernanke gave a speech for the second time in two days yesterday, this time comparing the present situation with the 1970s, another time of rapidly escalating oil prices and inflation in food and other commodities.

Nonetheless, “We see little indication today of the beginnings of a 1970s-style wage-price spiral, in which wages and prices chased each other ever upward,” Bernanke said.

Perhaps what he meant to say was that prices are chasing themselves higher while real wages are actually falling.

“Some indicators of longer-term inflation expectations have risen in recent months, which is a significant concern for the Federal Reserve,” Bernanke said. “We will need to monitor that situation closely.”

Matthew Strauss, senior currency strategist at RBC Capital Markets, analyzed Bernake’s words thusly: “His comments are consistent with [the previous day’s] speech and it seems the Fed is starting to close the door on further rate cuts. However, given the downside risks to growth, we believe it would be premature to price in rate hikes in 2008.”

Well, maybe. But it’s not likely to be too premature, given that the effects of the current oil shock are only beginning to be priced into other markets.

Source: Dollar Stable as Bernanke Speaks Again

Speaking via satellite at the International Monetary Conference in Barcelona, Spain, Bernanke said the Fed is working with the Treasury to “carefully monitor developments in foreign exchange markets.” The Fed Chair said he was aware the effect of the dollar’s decline on inflation and price expectations, Bloomberg News reported.

Also, interest rates are currently “well positioned” to promote both growth and stable prices, he added.

“I can’t recall such a strong defense of the dollar from a Fed chairman,” Sophia Drossos, a currency strategist at Morgan Stanley (MS) who used to work at the New York Fed, where she helped manage the central bank’s foreign-exchange holdings, told Bloomberg. “The Fed is putting its marker down in letting the market know that a weaker dollar would be detrimental.”

Ordinarily, the state of the greenback would fall under the Treasury’s watchful eye, but Bernanke’s comments show the Fed chief is aware of the effect the aggressive rate-slashing campaign of the past several months has had on global currencies. The dollar has dropped 16% against the euro, driving up the cost of dollar-denominated commodities such as oil.

“The challenges that our economy has faced over the past year or so have generated some downward pressures on the foreign exchange value of the dollar, which have contributed to the unwelcome rise in import prices and consumer price inflation,” Bernanke said.

He went on to acknowledge the Fed’s commitment to “ensuring that the dollar remains a strong and stable currency.”

The comments from the Fed chairman gave an immediate boost to the dollar, as it climbed to $1.545 against the euro and commanded 105.3 against the yen in mid-afternoon trading.

Analysts, as well as Fed futures, are pointing to a Fed on pause at the June meeting of the Federal Open Market Committee (FOMC). It is expected the FOMC will vote to hold rates steady, especially in light of the minutes of the April meeting, which revealed the last vote to reduce the Fed Funds rate 25 basis points was a close call for many.

At least one Fed member has gone on record as being against further cuts. Dallas Fed President Richard W. Fisher is the only FOMC policymaker to “dissent” three times on prior votes to lower the central bank’s key interest rate. Fisher has gone so far as to suggest holding rates steady may not be enough to fight current price pressures.

“If inflationary developments and, more important, inflation expectations continue to worsen, I would expect a change of course in monetary policy to occur sooner rather than later, even in the face of an anemic” U.S. economy, Fisher said during a speech in San Francisco last week.

Source: Fed Chair Comments Boost Greenback

“We are somewhere in the twilight zone between an expansion and a recession,” Michael Feroli, an economist at JPMorgan Chase & Co. (JPM) in New York, told Bloomberg News. “We will have a poor pace of growth through the year.”

The preliminary estimate of GDP represents an increase from the Apr. 30 advance estimate of 0.6% and is based on more complete economic information.

Economic expansion was primarily due to a boost in exports due to the combination of a weak dollar and strong overseas sales. Imports also declined, as the trade deficit shrank to its lowest level in five years.

The slight boost in GDP could be just what the U.S. Federal Reserve needs to hold off on any further interest rate cuts.

“The underlying domestic demand in the economy showed slight improvement. It’s probably consistent with the Fed being on hold in June and several months after that,” Nick Bennenbroek, currency strategist with Wells Fargo & Co. (WFC) in New York, told Reuters.

The Fed’s aggressive rate-cutting campaign has brought the Fed Funds rate down to 2.00% from 5.25% last September. But while it seems the cuts are helping the U.S. economy skirt a true recession – defined as two consecutive quarters of negative GDP growth – those same cuts have added fuel to the inflation fire.

The minutes of the last policymaking Federal Open Market Committee (FOMC) meeting showed that the Fed’s inflation forecast was raised from a range of 2.1%-2.4% to a range of 3.1%-3.4%.

And many analysts, including Money Morning Contributing Editor Martin Hutchinson, feel the Fed will need to raise rates to combat that escalating inflation.

“The nation’s central bank will soon have to reverse course and start raising interest rates – and probably in a hurry, too, if the Fed wants to keep oil prices on this side of the stratosphere,” Hutchinson said in a recent Money Morning investment analysis.

And with the economy still growing, even at a sluggish pace, the Fed might be able to take Hutchinson’s advice. The upward revision to GDP comes close on the heels of other recent economic reports that were better than expected, including April durable goods orders and April retail sales.

“Data reported so far point to continued expansionary growth in the second quarter,” Sam Bullard, a Wachovia Corp. (WB) economist in Charlotte, North Carolina, said in a research report, Reuters reported.

The economic stimulus checks sent out to over 130 million U.S. households could provide a nice boost to the economy. If consumers spend that money, rather than using it to pay down debt or pad their savings, it could turn into a nice shot of growth for GDP in the second quarter. The third (and final) estimate for first quarter GDP will be released on June 26.

By Jennifer Yousfi
Managing Editor

Source: U.S. Economy Expanded Faster than Reported, With First Quarter GDP Revised Upward to 0.9%