USD Loss of Downward Momentum – Analysis and Forecast – May 16, 2024

Today the dollar index is trying to limit the decline of the past few days and is above 104.2. The EUR/USD exchange rate approached 1.0900.

This is more of an emotional explosion. Markets are assessing new inflation numbers in the US. As traders begin to analyze the situation calmly, emotions will subside as early as today.

After the inflation announcement, the Minneapolis Federal Reserve president confirmed it would be necessary to keep interest rates at current levels for the time being, while expressing doubts about how much it was holding back the U.S. economy.

Experts at Bank of America remain on the same page, believing the first interest rate cut will not occur until December. A rate cut in September would require inflation to slow further or labor market indicators to weaken further.

Nonetheless, the yield on the 10-year U.S. Treasury note fell to 4.32% on Wednesday, its lowest level since early April. This is because the Federal Reserve has greater flexibility to cut interest rates this year due to a slowdown in inflation indicators.

The dollar index has been weak over the past few days. DXY is now close to the closest support level, the April low (103.95). Perhaps within this range, dollar weakness will temporarily slow down. At least that’s the picture we’re seeing now.

When will the Fed cut interest rates?

The biggest question is when will the Federal Reserve cut interest rates? This is of interest to analysts and financial market observers. Analysis and forecasts suggest that September remains the most likely month for rate cuts to begin as key components of U.S. inflation begin to trend downward.

DNB Markets wrote that if inflation data remains moderate and labor market conditions continue to improve, the current data will not change the likelihood of a rate cut in the fall. According to their forecasts, the market expects the first interest rate cut in September.

Inflation data released on Wednesday showed that overnight index swaps, which reflect traders’ expectations about future interest rates, are now fully aware of the possibility of a September rate cut.

Two weeks ago, the first round of cuts were not expected until December.

Expectations of a Federal Reserve interest rate cut in 2024 have been significantly lowered due to rising inflation in the first quarter. There are signs that some elements of the inflation basket will be resistant to change.

This caused US bond yields to rise and the US dollar to rise in currency markets. This situation could happen again.

Until core inflation (excluding housing costs) and housing costs fall, the overall inflation rate cannot remain stable at the Fed’s 2.0% target.

Housing costs, which account for about 40% of the total consumer price index, have been on the rise due to steady increases in housing prices and rents in recent years.

But PNC Bank said the April 2024 consumer price report could provide some relief to Fed policymakers as the CPI’s most stable housing and core services sectors showed the first signs of easing in a long time.

Core CPI fell to 0.2% compared to the previous month, and the home price growth rate was only +0.2% compared to the previous month, the lowest since January 2021 (+0.6%).

PNC’s forecast for two 25 basis point rate cuts in September and December of this year now looks more reasonable than it did in early 2024.

Other analysts offer similar views. Berenberg believes current inflation data makes it slightly more likely that the Fed will start cutting interest rates sooner.

“We continue to expect one 25 basis point rate cut in December and three additional rate cuts next year to lift the Fed funds target rate to 4.25% to 4.50%,” Berenberg said.

Economists at Wells Fargo and Pantheon Macroeconomics share this view. The Fed needs favorable inflation data to feel confident about cutting interest rates. The first interest rate cut is possible at the September FOMC meeting.

Pantheon Macroeconomics argues that the case for a further slowdown in core inflation remains strong. The outlook for the future is bright, with supply chains stabilizing, wage growth slowing, and corporate margins remaining strong.

Economists also point out that global food and energy prices are not a threat, as well as slowing rent increases and lower car prices. This means a slowdown in auto insurance inflation.

This sets the stage for a further slowdown in core CPI this summer, allowing the Fed to begin easing in September.

With the market consensus increasingly tilting towards a September rate cut, all eyes will be on upcoming macroeconomic data that could confirm these expectations.