Issues that can lift the Dollar.

The most recent employment data in the U.S. came in significantly better than what was expected and the financial markets reacted in a different way this time. Interest rates went screaming higher, the stock market surged, gold fell and the dollar shot up.

In a normal environment a stronger dollar following better U.S. economic data sounds perfectly reasonable, but in the current "risk-centric" environment GOOD news has been BAD news for the dollar. That's because it has enhanced the appetite for risk, which has translated into investors selling dollars in exchange for higher yielding/higher risk currencies.

This time around, the slightly improving data gave these dollar traders the idea that the Fed could begin reversing its zero interest rate policy sooner than later. That got the dollar moving higher. And that got the wheels turning for a bounce in the weak dollar trend. But, the Fed isn’t likely to change course anytime soon.
The dollar has continued to show strength following that turn in sentiment, but the prospects of a sooner move on rates has now been dismissed. This was a knee-jerk reaction in the markets that could soon likely be fully reversed, except in consideration of these other, more global forces , countering the 0 rate Feb policy.

What is now underpinning dollar strength is a shift in market focus toward some of the trends facing the global economic environment. That's swinging the risk appetite pendulum back toward safety, which is traditionally positive for the dollar.
In others words, as bad as the long term weakness of the dollar appears, the short term circumstances for other currencies is much worse.

So what can keep this momentum going in the dollar?
Answer: Growing risks to the global economy.

I can imagine 4 specific examples that could fuel more demand for dollars.

A. Rising Prospects of a Sovereign Debt Crisis
First it was Dubai that stoked fear in the financial markets over the Thanksgiving Day holiday. Now, Greece appears that it will struggle to meet debt commitments. Fitch downgraded Greece to just three notches above the lowest investment grade status. Greece has been the weakest link in the Euro chain since its adoption ion 2002.
Debt problems appear to be more contagious than H1N1. Debt concerns can devastate investor confidence in the capital markets of such countries, and in the global economy. And when confidence wanes, capital flees. That's a recipe for falling dominoes.

B: General Problems for the Euro
The recent downgrade in Greece turns the market focus back to the problems that exist in across the Eurozone, and that's putting downward pressure on the euro which has usually meant upward pressure on the dollar.
The E U's growth and stability pact limits all member countries to a budget deficit of 3 percent of GDP. But Greece is running a budget deficit of 12.7 percent of GDP. More than four times the limit.
In fact, the 16 member states of the Euro exchange are running budget deficits more than twice the 3 percent limit! Not as bad as the US, but significant.
So the uneven performance in Europe will likely call into question the viability of the euro currency again. Any of speculation of a break-up of the Euro is hugely dollar positive. I do not believe that will be the case. The EU has made its bed and will have to lie in it for at least the foreseeable future. But, such speculation could still abound within the periphery of the Eurozone’s weakest and more conservative member states.

C: Uncertainty Over True Economic Recovery
Now that sovereign debt problems are surfacing from Dubai, Greece, Spain and others, investors & traders are getting concerned about the sustainability of this recovery. After all, the unprecedented monetary response to the global fiscal crisis was an experiment. The outcome is unknown. And the underlying problems related to the crisis still exist: Bad debt, reduced wealth and tight credit to name a few. I believe we are facing the shortest, most volatile recovery ~ correction cycle in memory.

Moreover, when you counter a liquidity crisis by pouring money on it, you're bound to create more bubbles. While ground zero for the credit crisis was the U.S. housing market, new bubbles in real estate are developing in the areas that were relative outperformers in the downturn (such as China, India and Canada).
In Shanghai, housing, while traditionally in short supply, is on fire. Skyrocketing near 40 percent in October from the same period a year earlier. And in a story about the Canadian housing market this week, Bloomberg quoted a real estate agent as saying, "Where else in the world do you have agents lining up overnight to buy a condominium?"
Sound familiar? It should.

D: Trade Protectionism
We've already seen evidence of restrictions on global trade and capital flows from this new regime in Washington. Considering protectionism was a key accomplice in fueling the Great Depression, this activity represents a major threat to global economic recovery. Especially in consideration that the US no longer possesses a manufacturing infrastructure to protect, restraint of trade at this point is tantamount to closing the barn door well after the horse as fled. Only the consumer can suffer through higher prices.

Clearly, the biggest factor in the protectionism threat is China's currency policy. Even after recent tour stops in China by U.S. Obama and the European Central Bank President to lobby for a stronger Yuan, the Chinese have remained steadfast on keeping their currency weak. As this issue with China's currency gains in intensity, expect protectionist acts to rise in retaliation. In turn, expect collateral economic and political damage.

In conclusion: If sovereign debt problems within the Eurozone and the Mid East along with the prospects of a “W” market trend, high volatility, one can take from that trend that there will be a retrenchment away from risk in the short term and one might not be as eager to turn the risk appetite switch back on soon. That could give the dollar a strong lift that might last longer and rise further than many expect. Even myself, who has been contra dollar for some time.