Lagging Inflation Weighs On Dollar

Today, key US inflation data came in at 0.1%, under expectations of 0.2%. The reading fits into the wider narrative of a fragile US economy.

This week, some Federal Reserve members noted that lagging inflation may be more than just transitory, that greater forces may be at play. The dovish comments and the underwhelming inflation results have sent the dollar lower. The greenback has lost 0.32% against the euro in the wake of the inflation data.

Investors are concerned that the scope and pace at which the Fed anticipate rate hikes will be slowed thanks to waning inflation.

The Fed are currently undertaking a two-part plan, to bring quantitative easing to an end. Members have started by raising the Federal Fund’s overnight rate and will then start to reduce its reservoir of bond and mortgage-backed securities later this year. The second part of the strategy can be seen as a kind of substitute for the former.

The Fed have noted that teasing the markets with ambiguous proposals should be avoided. Instead a phased-out plan of reinvesting its holdings is more favourable and poses less risk to tamper with market volatility. While a December rate hike is still likely, investors are shedding some bullish bets on the dollar as they lose confidence in the US economy’s resilience to a higher cost of borrowing.

The interest rate decision itself is actually overshadowed by the statement made by the board members, which focuses on predictions for future rate increases.

This announcement will influence the US dollar, one of the world’s most influential currencies. It will also influence the equity market. Higher interest rates are positive for assets like the dollar and financial stocks, while broadly bearish for most other stocks.

Although, stocks have been particularly robust in the face of heightened risk in the market. Given that investors anticipate a rate hike and tensions continue to brew in North Korea, stocks have had a muted reaction, trading near record highs.