US Dollar Index weakens below 101.50 after US PCE inflation as Fed rate hike odds fade

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US Dollar Index edges lower to around 101.40 in Friday's early European session.
July Fed hike odds dropped to roughly 28.9% from 34.2%, CME FedWatch showed.
The US PCE Price Index climbed 4.1% YoY in May; Core PCE inflation rose 3.4% YoY during the same period.

The US Dollar Index (DXY), an index of the value of the US Dollar (USD) measured against a basket of six world currencies, currently trades near 101.40 during the early European trading hours on Friday. The DXY declines as the latest US inflation data eases Federal Reserve (Fed) rate hike expectations. The Michigan Consumer Sentiment Index report will be in the spotlight later on Friday.

Data released by the US Bureau of Economic Analysis (BEA) on Thursday showed that the core Personal Consumption Expenditures (PCE) Price Index, the Fed’s primary price gauge, rose 3.4% year-over-year (YoY) in May, compared to 3.3% in April. The annual core PCE reading was the highest since October 2023.

Additionally, the headline PCE inflation jumped to 4.1% YoY in May from 3.8% in April. Both core and headline figures came in line with expectations. On a monthly basis, the PCE increased 0.4%, below the market consensus of 0.5%.

Markets continued to expect the Fed to approve a rate hike in September, though they lowered odds slightly. Traders are now pricing in nearly a 28.9% chance for a rise of at least 25 basis points (bps) at the Fed's July meeting, down from 34.2% in the previous session, according to the CME FedWatch tool. For the September policy meeting, expectations for a hike fell to 60.1% from 65.7% on Wednesday.

New York Fed President John Williams said on Thursday that interest rates are well positioned to bring inflation back toward the central bank’s target. Meanwhile, Chicago Fed President Austan Goolsbee noted that there was a "glimmer of hope" on services inflation in the latest US inflation report, but underlying inflation pressures are still too high and are trending the wrong way.

US Dollar FAQs

What is the US Dollar?

The US Dollar (USD) is the official currency of the United States of America, and the ‘de facto’ currency of a significant number of other countries where it is found in circulation alongside local notes. It is the most heavily traded currency in the world, accounting for over 88% of all global foreign exchange turnover, or an average of $6.6 trillion in transactions per day, according to data from 2022. Following the second world war, the USD took over from the British Pound as the world’s reserve currency. For most of its history, the US Dollar was backed by Gold, until the Bretton Woods Agreement in 1971 when the Gold Standard went away.

How do the decisions of the Federal Reserve impact the US Dollar?

The most important single factor impacting on the value of the US Dollar is monetary policy, which is shaped by the Federal Reserve (Fed). The Fed has two mandates: to achieve price stability (control inflation) and foster full employment. Its primary tool to achieve these two goals is by adjusting interest rates. When prices are rising too quickly and inflation is above the Fed’s 2% target, the Fed will raise rates, which helps the USD value. When inflation falls below 2% or the Unemployment Rate is too high, the Fed may lower interest rates, which weighs on the Greenback.

What is Quantitative Easing and how does it influence the US Dollar?

In extreme situations, the Federal Reserve can also print more Dollars and enact quantitative easing (QE). QE is the process by which the Fed substantially increases the flow of credit in a stuck financial system. It is a non-standard policy measure used when credit has dried up because banks will not lend to each other (out of the fear of counterparty default). It is a last resort when simply lowering interest rates is unlikely to achieve the necessary result. It was the Fed’s weapon of choice to combat the credit crunch that occurred during the Great Financial Crisis in 2008. It involves the Fed printing more Dollars and using them to buy US government bonds predominantly from financial institutions. QE usually leads to a weaker US Dollar.

What is Quantitative Tightening and how does it influence the US Dollar?

Quantitative tightening (QT) is the reverse process whereby the Federal Reserve stops buying bonds from financial institutions and does not reinvest the principal from the bonds it holds maturing in new purchases. It is usually positive for the US Dollar.