US Dollar Index drops to near 98.00 amid caution ahead of US PCE inflation data
- The US Dollar Index faces slight selling pressure ahead of the US PCE inflation data for July on Friday.
- Traders are confident that the Fed will cut interest rates in the September policy meeting.
- Fed’s Williams argued that officials need to see economic data to decide on interest rates in September.
The US Dollar Index (DXY), which tracks the Greenback’s value against six major currencies, trades 0.12% lower to near 98.00 during the Asian trading session on Thursday. The US Dollar (USD) faces slight selling pressure as investors turn cautious ahead of the United States (US) Personal Consumption Expenditure Price Index (PCE) data for July, which is scheduled for Friday.
Economists expect the US core PCE inflation, which is closely tracked by Federal Reserve (Fed) officials as it strips off volatile items such as food and energy, to have risen at a faster pace of 2.9% on year against 2.8% in June. Month-on-month inflation is estimated to have grown steadily by 0.3%.
Investors will closely monitor the inflation data as it will influence market expectations for the Fed’s monetary policy outlook. According to the CME FedWatch tool, there is an 87% chance that the Fed will cut interest rates in the September monetary policy meeting.
On Wednesday, New York Fed Bank President John Williams stated in an interview with CNBC that officials need to see economic data to decide whether an interest rate cut is appropriate in the September policy meeting. "Risks are more in balance. We are going to just have to see how the data plays out," Williams said.
Meanwhile, the broader outlook of the US Dollar has remained under threat as US President Donald Trump has floated the termination letter of Fed Governor Lisa Cook over mortgage allegations, which has been seen as a serious attack on the central bank’s independence. In response, Cook has decided to file a lawsuit to keep her job.
US Dollar FAQs
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.
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.
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.
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.
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