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The dollar plummets on cooling US inflation

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Written by:
Myrsini Giannouli

13 January 2023
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Important calendar events

  • GBP: Monthly GDP, Construction Output, Goods Trade Balance, Index of Services, Industrial Production, Manufacturing Production, NIESR GDP Estimate
  • EUR: French Final CPI, Italian Industrial Production, EU Industrial Production, Trade Balance
  • USD: Import Prices, Preliminary UoM Consumer Sentiment, Preliminary UoM Inflation Expectations


The dollar dipped in early trading on Thursday ahead of the highly-anticipated US inflation report. The dollar plummeted later in the day and the dollar index dropped to the 102.1 level on cooling US inflation. 

US Treasury yields also fell sharply on Thursday on reduced Fed rate hike expectations, with the US 10-year bond yielding approximately 3.44%. 

CPI data released on Thursday were this week’s most highly anticipated fundamentals. Although the US inflation print on Thursday was in line with expectations, the dollar crashed after the release of the CPI data. US inflation seems to be cooling, as US headline inflation dropped to 6.5% year-on-year in December from 7.1% in November. Monthly CPI, which excludes food and energy, came at -0.1% in December from 0.1% in November, which was the first negative print of 2022. Core CPI, on the other hand, rose to 0.3% from 0.2% the previous month. The soft inflation print put pressure on the dollar, as cooling price pressures may give the US Federal Reserve some leeway towards scaling back its interest rate increases. 

US Unemployment Claims released on Thursday were more optimistic than expected, but failed to provide support for the dollar after the release of the US inflation report.

Fed rate hike expectations have been the main factor driving the US dollar and treasury yields over the past few months. At the latest monetary policy meeting the Fed raised interest rates by 50 basis points, bringing the benchmark interest rate to a target range of 4.25% to 4.50%. 

Fed rhetoric in the past few days has been cautiously hawkish, with FOMC members stressing the need to bring inflation down, but hinting that inflation indicators will play a decisive role in determining the pace of future rate hikes. On Tuesday, Federal Reserve Chairman Jerome Powell stressed that the Fed will have to make tough decisions to bring US inflation down. The Fed Chair however, carefully avoided commenting directly on the central bank’s monetary policy outlook, increasing the likelihood of a pivot in the Fed’s policy as US inflation cools. 

US economic outlook and inflation will likely determine the pace of rate hikes. Many analysts believe that the Fed will ease its rate hikes, but will continue raising interest rates at a slower pace until the benchmark interest rate reaches at least 5.0%. This means there are likely still a couple of rate hikes up ahead, which may support the dollar.

Global recession concerns remain high, boosting the dollar. US GDP data revealed that GDP rose by 3.2% for the third quarter of 2022. The US economy is still expanding, but at a slower pace than anticipated and recession looms.

Several economic indicators are scheduled to be released on Friday for the US, including Import Prices, Preliminary UoM Consumer Sentiment, and Preliminary UoM Inflation Expectations. These are important indicators of economic activity and health and may affect the dollar in the wake of Thursday’s US inflation data.



Markets were slow early on Thursday, as traders awaited the release of US inflation data later in the day. The Euro was bolstered and the dollar plummeted after soft US inflation data was released. EUR/USD was catapulted above the 1.078 resistance, reaching 1.085. If the currency pair goes up, it may encounter resistance at 1.118. If the EUR/USD pair declines, it may find support at 1.048. 

ECB Economic Bulletin released on Thursday showed that the ECB doesn’t expect to hit its 2% inflation target until 2025.

Hawkish ECB rhetoric this week has been providing support for the Euro. ECB members Isabel Schnabel and Francois Villeroy stressed the need for additional interest rate hikes in the coming months.

Increased price pressures combined with a weak economic outlook have brought stagflation in the Eurozone, a toxic mix of high inflation and stale economic growth. EU headline inflation dropped to 9.2% year-on-year in December from a 10.1% print in November indicating that Eurozone inflation is cooling. This is the first drastic drop in inflation that signals that the ECB’s efforts to tame inflation are bearing fruit. Price pressures in the Eurozone remain high though, and interest rates need to rise significantly to combat entrenched inflation. 

EU inflation rates are still far from the ECB’s 2% goal and are forcing the central bank to hike rates aggressively. In its latest monetary policy meeting in December, the ECB raised interest rates by 50 bp, bringing its benchmark interest rate to 2.50%. 

However, the question is whether economic conditions in the Eurozone will allow the ECB to continue raising interest rates at a fast pace. The ECB has updated its economic growth forecast by 3.4% in 2022, 0.5% in 2023, 1.9% in 2024, and 1.8% in 2025. These are lower than previous estimates, indicating that Eurozone economic outlook is poor and that the ECB might be forced to raise interest rates in a recessionary backdrop.

Markets are pricing in at least two more 50-bp rate hikes in February and March this year. On the other hand, market odds for the next Fed rate hike are at 25-bp, as a pivot in the Fed’s policy is expected. If this scenario comes true, it will boost the Euro against the dollar. 

Several economic activity indicators are scheduled to be released on Friday for the Eurozone. These include: French Final CPI, Italian Industrial Production, EU Industrial Production, and EU Trade Balance and may cause some volatility in Euro price.

EURUSD 1hr chart



The Sterling gained strength on Thursday, benefitting from the dollar’s decline. GBP/USD edged higher, climbing to 1.223. If the GBP/USD rate goes up, it may encounter resistance at 1.244, while support may be found near 1.184. 

The British economy is constrained and the country is already in the grip of recession. The final GDP print for the third quarter of 2022 was -0.3%, which fell below expectations, indicating that the economy in the UK is shrinking. The BOE recently revised its economic growth projections, with GDP expected to drop by 0.1% in Q4 2022. The British economy is still struggling and policymakers will have to assess how much tightening it can withstand to bring inflation down. 

At the same time, surging inflation has forced the BOE to adopt a more hawkish fiscal policy, bringing its interest rate to 3.50% in December, its highest rate in 14 years. After a year of fiscal tightening, UK headline inflation finally dropped to 10.7% in November, alleviating some of the pressure on the BOE to raise interest rates. In the latest monetary policy meeting in December, BOE members voted to hike rates by 50 bps. With inflation remaining above 10%, this was perceived by many analysts as the start of a pivot toward a more dovish fiscal policy, putting pressure on the Sterling. 

The BOE gave uncertain forward guidance at its latest policy meeting in December, leaving the door open for further rate hikes, but signaling that interest rate increases might pause within the first quarter of 2023. The UK’s grim economic outlook may limit policymakers’ ability to increase interest rates sufficiently to rein in inflation.

On the data front, the most important fundamentals this week for the UK are scheduled to be released on Friday. Among those are monthly GDP data, which may cause some volatility in the Sterling price, as the state of the British economy is precarious. 

GBPUSD 1hr chart



The Yen gained strength on Thursday, as the dollar dipped on cooling US inflation. USD/JPY dropped below the 129.5 level support, touching 129.0. If the USD/JPY pair declines, it may find further support near 114.2. If the pair climbs, it may find resistance at 138.2.

Economic activity indicators released on Thursday for Japan were overall mixed. Bank Lending dropped to 2.7% annually in December from 2.8% in November, indicating declining borrowing confidence. Current Account on the other hand, which measures the difference in value between imported and exported goods marked a 1.92T surplus in November from a 0.61T deficit in October.

Price pressures continue to rise in Japan, as BOJ CPI rose to 2.9%, mainly due to the high cost of imported energy. Inflation in Japan has gone above the BOJ’s 2% target, touching 40-year highs and putting pressure on businesses and households.

The BOJ caused a stir in markets in December by finally yielding to increased price pressures and tilting its monetary policy. In the latest monetary policy meeting, Japanese policymakers maintained the central bank’s refinancing rate at -0.10%, but changed its yield control target for its 10-year government bond to between plus or minus 0.50%, from a previous 0.25%. The BOJ had set a target range around zero for government bond yields for years, and this adjustment may be the signal of a shift towards a more hawkish policy. Long-term, this move may allow interest rates to rise, cutting off some of its monetary stimuli. 

Meanwhile, BOJ Governor Haruhiko Kuroda has been reaffirming the central bank’s commitment to its ultra-easy policy. Kuroda however, is due to retire in April and his successor may decide to unwind the BOJ’s ultra-easy policy. A pivot in Japan’s monetary policy within 2023, would boost the Yen considerably. 

The final GDP Price Index for the third quarter of 2022 showed economic contraction by 0.3% on an annual basis and the Japanese economy shrank by 0.2% in the third quarter of 2022, mainly due to the high costs of imported energy. Japan’s economic outlook is poor, raising recession concerns for the world’s third-biggest economy. 

USDJPY 1hr chart


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Written by:
Myrsini Giannouli

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