Yesterday's US figures highlighted the dilemma facing the Fed. US inflation figures came in higher than expected, with the headline rate at 0.38% month-on-month (instead of the expected 0.3%), while the core rate narrowly missed an upside surprise at 0.346% (instead of the expected 0.3%) due to rounding rules. The effect was more visible (albeit slowly) in some sub-categories that are more dependent on imported goods, Commerzbank's FX analyst Michael Pfister notes.

The focus is on the labour market

"However, there was also another sign that the labour market is cooling down. Initial jobless claims rose significantly, reaching their highest level since October 2021. Admittedly, we will have to wait and see whether this increase continues in the coming weeks. Nevertheless, despite higher inflation, the market took this as an opportunity to continue betting on significant interest rate cuts in the coming months, and the USD suffered losses across the board."

"As my boss has emphasised several times, the Fed's interest rate cuts are damaging the US dollar because they are happening at a time of elevated inflation. In recent years, one could always rely on the Fed to respond to inflationary risks with a restrictive monetary policy."

"However, it is now clear that the focus is on the labour market, with higher inflation being accepted after four years of inflation above target. This is likely to lead not only to short-term USD weakness, but also repeated flare-ups if price pressures prove more persistent than expected. It will be a slow bleed instead of a big bang, so to speak."