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Dollar Drifts Higher Ahead of Fed Decision

The dollar edged up against the euro and yen Tuesday after a mixed bag of U.S. economic data led dealers to trim their bets against the currency ahead of Wednesday's policy decision by the Federal Reserve.

Higher-than-expected readings of consumer confidence and orders for long-lasting durable goods put a floor under the dollar and caused interest rate futures to reflect a slightly lower chance that the Fed will significantly lower its benchmark interest rate this week.

Another report showed widespread gloom in the U.S. housing sector, but that familiar story was absorbed easily by the market.

"This is not the kind of data recessions are made of and highlights how important employment is going to be in determining whether the economy can sneak by with a growth recession (growth where unemployment rises) or something much less benign," said Alan Ruskin, chief international strategist with RBS Greenwich Capital in Greenwich, Connecticut. "Net-net positive dollar data."

The euro slipped versus the dollar. Prior to Tuesday, the dollar had fallen against the euro in four out of the last five trading days after the Fed startled markets by slashing its benchmark rate by 75 basis points to 3.5 percent in an emergency move last week.

After the durables data, the dollar rose to an intraday high against the yen before easing back slightly.

Against the Swiss franc, the dollar climbed to a session high of 1.0961 francs, and then inched back slightly.

50 or Bust?

Interest rate futures reflect a roughly three-in-five chance the Fed will cut by 50 basis points after its scheduled meeting, which would bring the federal funds rate down to 3 percent, a full percentage point below the euro zone benchmark rate and among the lowest in the industrialized world.

A lower yield would presumably make the dollar a less attractive currency in which to hold investments.

If the Fed cuts by 50 basis points, the cumulative 125 basis points of easing would be the biggest move in a two-week span since the U.S. central bank began using the fed funds rate as its primary policy tool in the early 1990s.

If such a cut is accompanied with more relatively positive U.S. economic data, investors could stampede back in the market hunting for higher-yielding, higher risk investments, said Mark Frey, head trader with Custom House, a currency services firm in Victoria, British Columbia.

"The carry trade will be back in vogue and the U.S. dollar will likely struggle, especially against the euro and the commodity currencies," Frey said.

Dealers and investors would like to see what the Fed, in the statement accompanying its policy decision, has to say about the risks ahead for economic growth -- especially with fourth quarter U.S. gross domestic product data and the January employment report due later this week.

Until then, however, many market participants are playing a waiting game.

"For the time being it looks like the market really doesn't want to do anything ahead of the FOMC," said Boris Schlossberg, senior currency strategist with DailyFX.com in New York.