Assuming your machine isn't ancient, you should be able to boot up off of the XP CD.
Now, I usually do my installs from a DOS drive. I generally create two partitions, a small partition that I copy the i386 directory onto (say 1 gig) and then an NTFS partition used for the base install. I think this is out of scope though ... so lets continue down the path of least resistance.
Once you boot off of the NT CD, it should allow you to delete the fat32 partition that you current ME/XP install is on. That is, if it doesn't have to prestage it's setup files there (i never install from CD, so dont remember). Assuming it doesn't, there will be a point in the install - prior to the GUI, and while you're in the blue text screen - where it allows you to re partition your drive. If it does, do it. Blow away your current partition on your first drive (Drive C) and create a new one. Then select that as the install target and tell it to format NTFS.
NTFS might be a little slower than FAT.... But hear me out on this. It has filesystem level permissions, so if after you do the install, you create a non priveledged account and do you surfing there, virii, trojan, etc will have a harder time mucking up your system beccause the user you're running as won't have the ability to alter the files (and when the malware is instantiated, it will inherit those permissions and thus wont have access to much with system files either). This is not 100% true of course, because microsoft does a poor job on security in general (so some of their services are exploitable - usually through a buffer overflow, aka stack smashing).
I'm sure one of the windows admin types can give you more detail on the install and properly securing your box (truth is, if it's running MS Products only way to properly secure it is to pull the power chord : -)... I live in the unix world (slowaris) and generally don't have to deal with such issues.
Gus