- The US released data showing an increase in consumer prices in November.
- Policy outlooks between the Fed and other major central banks are diverging.
- Markets lowered the likelihood of a Bank of Japan rate hike in December.
Currency futures eased as the dollar extended gains after a strong week due to a drop in 2025 Fed rate cut expectations. Meanwhile, markets nearly fully priced a rate cut during the Fed policy meeting this week as inflation figures accelerated in line with expectations.
December Fed rate cut bets (Source: Bloomberg)
The greenback had its best week in a month as markets slashed bets for rate cuts in 2025. At the same time, data last week solidified the likelihood of a December Fed rate cut. Notably, the US CPI rose by 0.3% in November and 2.7% annually. As a result, inflation moved further away from the Fed’s 2% target. However, since it came in line with forecasts, it strengthened the likelihood of a Fed rate cut in December.
Meanwhile, the outlook for 2025 changed, with markets expecting fewer rate cuts. Although inflation is behaving as expected, it has stalled its progress toward the target. Consequently, policymakers have assumed a more hawkish tone, calling for caution in the coming year. At the same time, Trump’s imminent policy changes could lead to a further spike in inflation that will put a pause on the Fed’s monetary easing.
Another reason for the rally in the dollar was the growing divergence in policy outlooks between the Fed and other major central banks. Last week, the European Central Bank and the Bank of Canada lowered borrowing costs in order to spur economic growth in their economies.
Moreover, the outlook for these economies remains bleak, especially with the threat of Trump tariffs. Therefore, experts believe the central banks will keep lowering borrowing costs next year. Meanwhile, the Fed will likely assume a gradual pace. This divergence gave the dollar an edge and boosted Treasury yields. Meanwhile, currency futures suffered.
The yen particularly suffered as markets lowered the likelihood of a Bank of Japan rate hike in December. Policymakers are concerned about overseas risks like uncertainties about Trump’s policies. At the same time, the outlook for wages in Japan remains clouded. As a result, market participants price a less than 30% chance of a hike this week.
On the other hand, the pound fell after data on Friday revealed an unexpected contraction in the economy. However, PMI data on Monday led to a rebound in the currency.
