**US Dollar Set for Biggest Weekly Drop in Eight Months as Rate Cut Bets Surge**
*Original reporting by Rae Wee, ForexFactory.com*
The United States dollar is facing its sharpest weekly decline since December, driven by mounting speculation that the Federal Reserve could soon start cutting interest rates. This shift in market sentiment comes on the heels of several key economic indicators that suggest a slowdown in U.S. economic activity and easing inflationary pressures.
**Market Overview**
As of Friday morning in Asia, the dollar index, which measures the greenback against six major currencies, was down around 0.05% at 104.12. For the week, the index has slipped nearly 1.5%, positioning it for its worst weekly performance since early December 2023. The decline follows softer-than-expected inflation data and weak retail sales figures that have heightened expectations for monetary policy easing from the Federal Reserve.
**Key Contributing Factors to Dollar Weakness**
Several factors have contributed to the dollar’s decline this week:
– **Soft U.S. Inflation Data**: The latest Consumer Price Index (CPI) report came in lower than anticipated, reinforcing the belief that inflation may be cooling.
– **Weak Retail Sales**: U.S. retail sales data revealed a downturn in consumer spending, underscoring potential vulnerabilities in the domestic economy.
– **Dovish Fed Expectations**: Market participants are increasingly pricing in rate cuts from the Federal Reserve before the end of 2024.
– **Falling Treasury Yields**: Bond markets have responded to the economic data and Fed expectations by pushing down yields, particularly on short-term notes.
– **Adjustment in Positioning**: Traders who had been long on the dollar are now shifting positions in anticipation of a less hawkish Fed.
**A Sharp Repricing of Rate Expectations**
Until recently, the Fed had maintained a cautious tone, with officials stressing the need for more economic data before initiating rate adjustments. However, following the July CPI release, fed funds futures indicate a significant shift in expectations:
– Markets now see an increasing probability of a rate cut as early as September.
– A total of two rate cuts by the end of 2024 are now priced in, up from just one prior to the latest data.
According to CME’s FedWatch Tool:
– There is now around a 75% chance the Fed will reduce its benchmark rate by 25 basis points in September.
– Expectations for further cuts in December have also risen sharply.
**Impact on Treasury Yields**
U.S. government bond yields have declined in tandem with the shift in Fed expectations. The benchmark 10-year yield dropped by about 20 basis points over the week, falling below 4.20%. Similarly, the two-year yield, which is more sensitive to near-term interest rate changes, also declined significantly.
Lower yields have made the U.S. dollar less attractive to yield-seeking investors, further fueling the greenback’s decline. The narrowing interest rate differential between the U.S. and other developed economies is also eroding the dollar’s advantage in global foreign exchange markets.
**Global Currency Movements**
The weakening dollar has impacted currencies across the board:
– **Euro (EUR/USD)**: The euro climbed to a six-week high of 1.0877, on track for a weekly gain of more than 1%. Traders are weighing the possibility that the European Central Bank may also delay or scale back its easing plans amid policy divergence with the U.S.
– **British Pound (GBP/USD)**: Sterling edged up to 1.2824, marking its highest level since early May. The Bank of England has signaled a cautious approach to rate reductions, which supports the pound.
– **Japanese Yen (USD/JPY)**: The yen gained further ground, with the pair last at 157.03. The Bank of Japan is expected to gradually normalize its ultra-loose policy, though pace and timing remain uncertain.
– **Australian Dollar (
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