Dollar Dips Ahead of US Inflation Data, Sterling Weakens on Soft CPI Print
The US dollar retreated slightly from its recent highs on Wednesday, as market participants awaited the release of crucial US consumer price index (CPI) data. The dollar index, which measures the greenback against a basket of six major currencies, edged down 0.2% to 108.895, easing off the two-year high reached earlier in the week. Tuesday’s softer-than-expected US Producer Price Index (PPI) reading had already tempered expectations for aggressive interest rate hikes by the Federal Reserve, leading to a pullback in Treasury yields. The upcoming CPI report is expected to offer further insights into the trajectory of inflation and influence the Fed’s monetary policy decisions. Economists project headline CPI to have risen by 0.4% month-on-month in December and 2.9% year-on-year. Core CPI, excluding volatile food and energy prices, is forecast to remain steady at 0.3% month-on-month and 3.3% year-on-year.
Market anxieties surrounding persistent inflation have been amplified by the robust US employment report released last week, which indicated a tight labor market and potential wage pressures. Adding to these concerns are President-elect Donald Trump’s proposed trade policies, which include imposing tariffs on both allies and rivals. Analysts caution that while markets have factored in some degree of US protectionism, a sudden, widespread implementation of tariffs could trigger a stronger-than-anticipated inflationary response. A hotter-than-expected CPI reading today could heighten market jitters about inflation even before any tariffs are enacted.
Across the Atlantic, the British pound remained largely unchanged against the dollar, trading at 1.2221 despite weaker-than-anticipated inflation figures. The UK’s annual inflation rate slowed to 2.5% in December, down from 2.6% in November, defying expectations of a slight increase. This unexpected dip prompted investors to increase their bets on the Bank of England cutting interest rates in February, with the probability of a quarter-point reduction now standing at 82%. Market expectations for two rate cuts in 2025 have also risen, reflecting growing concerns about the UK’s economic outlook. The pound has faced headwinds this year due to surging gilt yields, raising borrowing costs and potentially constraining the new government’s fiscal flexibility. Analysts highlight that the pound’s muted reaction to the soft inflation print underscores its sensitivity to long-term borrowing costs rather than short-term central bank policy.
The euro edged slightly higher against the dollar, reaching 1.0312, following subdued French inflation data in December. While the weaker dollar offered some respite to the euro, analysts anticipate renewed pressure on the currency pair once the US CPI data is released. No major market-moving releases are expected from the Eurozone today, though several ECB members are scheduled to speak. The euro has struggled at the start of the year amid concerns about weak regional economic growth and potential trade disruptions. Market consensus suggests the ECB will likely ease interest rates by around 100 basis points in 2025, with most cuts front-loaded in the first half of the year.
In Asian trading, the Japanese yen strengthened against the dollar, with the USD/JPY pair dropping 0.7% to 156.86. The yen’s gains were fueled by remarks from Bank of Japan Governor Kazuo Ueda, who indicated the central bank’s willingness to raise interest rates and adjust monetary policy if economic and price conditions continue to improve. This follows comments from Deputy Governor Ryozo Himino suggesting that the BOJ may discuss a potential rate hike at its policy meeting next week.
The Chinese yuan remained relatively stable against the dollar, trading at 7.3318, hovering near a 16-month high. The market awaits the People’s Bank of China’s decision on its benchmark loan prime rate later this week. Overall, market sentiment remains cautious as investors grapple with uncertainty surrounding US inflation, potential trade tensions, and the evolving monetary policy landscape in major economies. The release of the US CPI data will likely be a key driver of market movements in the near term.
The interplay between inflation expectations, central bank policy, and geopolitical developments continues to shape currency markets. The US dollar’s recent strength, driven by expectations of aggressive Fed rate hikes, has been tempered by softer-than-expected inflation data and concerns about the potential impact of trade policies. The pound’s weakness reflects anxieties surrounding the UK’s economic outlook and fiscal challenges, while the euro remains under pressure due to sluggish growth in the Eurozone. The yen’s recent gains are linked to potential shifts in the Bank of Japan’s monetary policy stance. As investors await further economic data and policy announcements, currency markets are likely to remain volatile.
