Dollar Stabilizes on Easing Inflation, Rate Cut Prospects in Focus

The U.S. dollar remained stable on Monday as investors grew increasingly confident about the possibility of the Federal Reserve cutting interest rates in 2024 due to signs of easing inflation. Meanwhile, the euro remained calm ahead of an expected rate cut by the European Central Bank this week.

Emerging market currencies, particularly the Indian rupee and Mexican peso, saw fluctuations following exit poll results from their respective general elections. The Indian rupee strengthened on expectations of Prime Minister Narendra Modi’s reelection, while the Mexican peso weakened after the ruling party declared Claudia Sheinbaum the winner of the presidential election.

The dollar experienced its first monthly decline of the year in May, primarily due to changing expectations regarding the timing and magnitude of U.S. central bank rate cuts. Market sentiment now leans towards a potential 37 basis points of cuts this year.

Friday’s data revealed a modest increase in consumer inflation in April, but price pressures remained above the central bank’s 2% target. Consequently, traders are pricing in a 60% chance of a rate cut in September, up from 49% before the report.

Investor attention this week will be on the ISM manufacturing survey and Friday’s payrolls data, which will provide insights into the U.S. labor market’s strength. A potential increase in the unemployment rate could signal a less tight labor market, potentially leading to a recalibration of rate expectations and dollar weakness.

Sterling dipped 0.2% to $1.2715, while the euro fell 0.12% to $1.0834 ahead of the ECB policy meeting on Thursday, where a rate cut is widely anticipated. Traders will closely monitor ECB officials’ comments and economic projections to assess the likelihood of further cuts after Thursday, given the recent rise in eurozone inflation.

S&P’s downgrade of France’s sovereign credit rating to “AA-” on Friday had little impact on the country’s bonds.

Data released on Friday revealed that Japanese monetary authorities spent 9.79 trillion yen ($62.23 billion) intervening in the foreign exchange market to support the yen over the past month. The yen strengthened on Monday, pushing the dollar down 0.26% to 156.82, moving further away from last week’s four-week low.

In conclusion, the dollar’s stability reflects a delicate balance between easing inflation concerns and the anticipation of potential rate cuts by the Federal Reserve. The upcoming U.S. economic data and the ECB’s policy meeting will be crucial in shaping market expectations and influencing the dollar’s future trajectory.