Stefano Rebaudo

(Reuters) – The dollar weakened against most currencies on Tuesday ahead of the release of key U.S. and euro zone inflation data later in the week, which could impact expectations about the monetary policy outlook of major central banks.

The dollar was also close to its first monthly decline in 2024.

“A situation where the Federal Reserve may start cutting interest rates this year, even in December, is consistent with further weakening of the dollar,” said Athanasios Vamvakidis, global head of forex strategy at BofA. He mentioned some weakening of macroeconomic data from the US and the recent, better-than-expected data from the euro zone as the main reasons for the dollar’s slowdown.

He also emphasized that the Fed countered speculation about possible interest rate increases, preventing further dollar appreciation.

Markets are now more than fully priced in for the December US interest rate cut. They also discount an 80% chance of such a move in November and a 60% chance in September.

Against a basket of currencies, the dollar fell 0.09% to 104.47, down 1.76% on a monthly basis.

The euro rose 0.13% to $1.0872 despite some dovish comments from European Central Bank (ECB) policymakers on Monday and data showing stagnation in German business sentiment in May.

Francois Villeroy de Galhau from the ECB confirmed market expectations that – unless there are any major surprises – the first interest rate cut next week is already certain. However, investors recently updated their assumptions about the ECB’s future moves, pricing in less than a cut in each quarter of 2024 and early 2025.

The German inflation data due on Wednesday and the broader euro zone reading on Friday will be watched for clues as to how quickly the central bank may ease monetary policy.

The dollar received little support from US data, which showed a surprising boost in consumer confidence this month.

All of this data, however, will be in addition to the market’s main theme on Friday, when the report on the U.S. Personal Consumer Expenditures (PCE) Core Price Index – the Federal Reserve’s preferred measure of inflation – is released. It is expected to remain stable on a monthly basis.

Analysts tried to assess the impact of the positive surprise on US data, seeing that the market is well priced due to the soft data.

Derek Halpenny, head of global markets research at MUFG Bank, said markets may be more sensitive to incoming data that is stronger than expected amid heightened debate over the Fed’s presumed neutral policy stance.

Fed Governor Christopher Waller said last week that the key interest rate crucial to monetary policy, the so-called star R, may rise after years of decline. Star R is a rate that neither stimulates nor restricts the economy, keeping inflation within the central bank’s target.

“This heightened debate over (the Fed’s) perceived neutral policy stance could have an increasing impact on lifting yields in the market if the economy does not slow down,” Halpenny said.

The dollar/yen fell near 157 and was last at 156.92, up $0.04.

BofA’s Vamvakidis said the Fed’s first rate cut in 2024 “would also be consistent with a strengthening of the yen versus the dollar.”

However, if markets should discount the Fed “to start easing its policy in 2025, the yen could test the 160 level again and further interventions by the Japanese authorities are likely,” he added.

All three key measures of core inflation from the Bank of Japan (BOJ) fell below 2% in April for the first time since August 2022, data showed on Tuesday, increasing uncertainty over the timing of the next interest rate hike.

The data comes ahead of Friday’s Tokyo inflation data, a leading indicator of nationwide data.

BOJ Governor Kazuo Ueda said on Monday that the central bank will proceed cautiously with its inflation targeting strategy.

Both the pound sterling and the New Zealand dollar rose to their highest levels in over two months. They last bought at $1.2772 and $0.6151 respectively.

The dollar strengthened by 0.12%. Monthly Australian Consumer Price Index data will be released on Wednesday.

In cryptocurrencies, bitcoin fell 2.41% to $67,908, while ether fell 1.28% to $3,838.80.