The US Dollar Index (DXY) continues its upward trajectory for a third consecutive session, trading around 98.60 during European hours on Friday. Traders are closely watching the upcoming release of the University of Michigan Consumer Sentiment Index for December, which is expected to provide further insights into consumer perspectives and potential market implications.
Despite the recent strength of the US Dollar, there are indications that its upside may be limited. Expectations for potential rate cuts from the US Federal Reserve are rising, particularly following the recent consumer price index (CPI) report showing a cooling in inflation rates. The CME FedWatch tool currently indicates a 73.3% probability that rates will be held steady during the Fed’s January meeting, a slight decrease from the previous day’s 75.6%. In contrast, the likelihood of a 25-basis-point rate cut has increased to 26.6% from 24.4%.
On Thursday, the US Bureau of Labor Statistics (BLS) reported that the US CPI eased to 2.7% in November, which fell below market expectations of 3.1%. Similarly, the core CPI, excluding the more volatile food and energy sectors, rose by 2.6%, missing forecasts of 3.0%. This represents the slowest increase in inflation rates since 2021, reinforcing calls for a more accommodative monetary policy moving forward.
In related developments, President Donald Trump stated on Thursday that he intends to appoint a new chairman for the Federal Reserve who is more inclined towards significant reductions in interest rates. Trump’s comments have fueled speculation about potential shifts within the central bank’s leadership and its impact on monetary policy.
The US Dollar, recognized as the official currency of the United States, is notably the most heavily traded currency worldwide, comprising over 88% of global foreign exchange transactions, amounting to an average of $6.6 trillion per day. Following World War II, the dollar replaced the British Pound as the dominant global reserve currency, a status it has maintained despite changes in monetary policy, such as the abandonment of the Gold Standard under the Bretton Woods Agreement in 1971.
The value of the US Dollar is primarily influenced by the monetary policy established by the Federal Reserve, which balances the dual objectives of achieving price stability and fostering full employment through adjustments in interest rates. When inflation exceeds the Fed’s target of 2%, interest rates are typically raised to support the Dollar; conversely, when inflation falls below this target or unemployment rises significantly, rates may be lowered, exerting downward pressure on the currency.
In extreme economic conditions, the Federal Reserve may resort to quantitative easing (QE), a process aimed at increasing the flow of credit in a faltering financial environment. QE typically results in a weaker dollar, as it involves the central bank purchasing government bonds, effectively injecting more currency into circulation. Alternatively, quantitative tightening (QT) involves halting bond purchases and may lead to a stronger dollar by reducing the overall money supply in the market.
As market participants await further economic indicators, the interplay between inflation data, consumer sentiment, and Federal Reserve policies will likely shape the outlook for the US Dollar in the coming months.
