Dollar near six-week high amid Iran war jitters
By Karen Brettell and Amanda Cooper
Market Reactions and Central Bank Responses
NEW YORK/LONDON, May 22 (Reuters) - The dollar held near six-week highs on Friday as traders weighed the prospects of a near-term deal to end the Middle East war and assessed whether the Federal Reserve would raise interest rates if inflation continued to accelerate.
Middle East Tensions and U.S.-Iran Negotiations
The United States has seen some progress towards a deal with Iran but more work is required, Secretary of State Marco Rubio said on Friday, while Iran's foreign ministry spokesman said the two sides' differences were deep and significant.
Traders are increasingly concerned that ongoing energy disruptions will filter through to core consumer prices, potentially forcing a tighter monetary policy response.
Federal Reserve Policy Outlook
"The key question now, of course, is if the Fed is going to hold," said Noel Dixon, global macro strategist at State Street. So far, inflation pressures feeding into the Fed's preferred gauge — Personal Consumption Expenditures — have remained relatively contained, Dixon said, supporting the case for keeping rates steady.
However, he cautioned that "the risk to my view is that Trump resumes attacks on Iran in an aggressive fashion. That could be a catalyst for greater interest rate volatility, and that could cause the Fed to panic and seriously consider a hike."
Fed funds futures traders are pricing in 50% odds of a rate hike by October.
U.S. Consumer Sentiment and Inflation
The University of Michigan's Surveys of Consumers on Friday showed that U.S. consumer sentiment plunged to a record low in May as surging gasoline prices fueled anxiety over worsening affordability, while inflation expectations also rose.
Fed Leadership and Policy Shifts
Fed Governor Christopher Waller, an influential voice in policymaking who until recently had advocated for lower interest rates, said on Friday the U.S. central bank should axe the "easing bias" from its policy statement and effectively open the door to a possible rate hike.
Kevin Warsh was also sworn in as Fed leader on Friday.
Currency Movements and Global Economic Impact
The dollar index, which measures the greenback against a basket of currencies including the yen and the euro,rose 0.04% to 99.24, with the euro down 0.06% at $1.1611.
The pound strengthened 0.11% to $1.3444, having shrugged off data earlier that showed retail sales dropped by the most in nearly a year in April, as consumers felt the pinch of the inflationary effects of the Iran war.
Growth concerns are also impacting currencies, with the U.S. seen having a stronger outlook than many peers.
Australian Dollar and Employment Data
Australia, meanwhile, is grappling with jet fuel and diesel shortages that threaten to drag on key industries. Dixon warned that potential fallout, including layoffs, may be difficult to reconcile with current expectations for as many as three rate hikes this year.
The Australian dollar weakened 0.15% versus the greenback to $0.7136.
Australian employment unexpectedly fell in April while the jobless rate jumped to the highest level since late 2021, a possible sign the labour market might be loosening enough to stave off a near-term interest rate hike.
Yen Under Pressure
Impact of Dollar Strength and Oil Prices
UNDER PRESSURE
The U.S. dollar's strength and persistently high oil prices have spelled pain for the yen, which on Friday fell 0.1% against the greenback to 159.11 per dollar.
The yen remains fragile even after what was likely intervention by Tokyo just weeks ago to prop it up — it has since surrendered nearly 75% of those gains, keeping traders on alert for further action by Japanese authorities.
Bank of Japan Policy and Inflation Data
"It's just buying time, really. What they need is a change in fundamentals, and I think the best thing that could happen is a quick deal to end the Iran conflict," said Lee Hardman, a currency strategist at MUFG.
The Bank of Japan is expected to raise borrowing costs only gradually, while other central banks — including the European Central Bank — are likely to move far more quickly, putting the yen at a disadvantage with yield-seeking investors.
Data on Friday showed Japan's core inflation slowed to a four-year low in April, complicating the outlook for BOJ policy.
Reporting Credits
(Reporting by Karen Brettell and Amanda Cooper; Additional reporting by Rae Wee in Singapore; Editing by Alex Richardson and Nick Zieminski)
