The US dollar held steady on Friday but remained on course for a weekly decline after weaker-than-expected inflation data reduced expectations for near-term Federal Reserve rate hikes.
At the same time, escalating tensions in the Middle East kept investors cautious and supported demand for traditional safe-haven assets.
US Dollar Heads for Weekly Loss
The dollar index was little changed on Friday, while the euro traded slightly lower against the greenback.
Despite the muted daily movement, the US currency was set to end the week in negative territory.
Currency markets were influenced by a combination of softer US inflation, changing interest-rate expectations and growing geopolitical uncertainty.
Softer Inflation Reduces Fed Hike Bets
The dollar initially benefited from safe-haven demand as tensions between the United States and Iran intensified.
However, sentiment shifted after US inflation figures came in below expectations.
The weaker data encouraged traders to reduce bets that the Federal Reserve would raise interest rates again in the near future.
Institutional investors and algorithmic trading systems adjusted their positions, leading to a broader reduction in long-dollar trades.
Federal Reserve Outlook Weighs on the Greenback
Interest-rate expectations remain a major driver of the US dollar.
Higher rates generally support the currency because they make dollar-denominated assets more attractive to global investors.
However, softer inflation reduces the need for additional monetary tightening.
As a result, traders became less confident that the Federal Reserve would deliver another rate increase soon.
Middle East Tensions Keep Investors Cautious
Geopolitical risks remained elevated as the conflict between Washington and Tehran continued.
Military escalation initially encouraged investors to buy safe-haven currencies, including the US dollar.
However, concerns about energy supplies and global economic disruption also created uncertainty across financial markets.
The combination of softer inflation and geopolitical risk left the dollar caught between weaker rate support and continued demand for safety.
British Pound Benefits From Political Developments
The British pound gained during the week as political uncertainty in the United Kingdom eased.
Sterling benefited from the weaker US dollar and reports regarding incoming Prime Minister Andy Burnham’s expected choice for chancellor of the Exchequer.
Although the pound slipped approximately 0.3% on Friday, it remained one of the stronger major currencies over the week.
Shabana Mahmood Seen as Fiscal Pragmatist
Reports suggested that Burnham, who is expected to take office on Monday, could appoint Home Secretary Shabana Mahmood to lead the Treasury.
Financial markets viewed Mahmood as a relatively centrist and fiscally cautious choice.
The potential appointment reduced concerns that the incoming government could pursue aggressive borrowing or sudden changes in economic policy.
Investors had feared that a more radical candidate might increase pressure on the UK’s public finances.
UBS Sees Politics Supporting Sterling
UBS analysts said the political environment had shifted from being a negative factor for the pound to a more supportive one.
They pointed to an orderly leadership transition from outgoing Prime Minister Keir Starmer to Burnham.
Greater political stability helped improve sentiment toward UK assets and strengthened confidence in the country’s fiscal outlook.
Euro-Zone Inflation Slows to 2.8%
Final data from Eurostat showed that annual euro-zone inflation slowed to 2.8% in June.
That was down from 3.2% during the previous month.
The decline indicated that price pressures across the currency bloc were easing.
Slower inflation could reduce the need for the European Central Bank to maintain a more aggressive monetary stance.
Euro Holds Firm Despite Softer Inflation
The euro remained relatively resilient despite the weaker inflation reading.
The broader decline in the US dollar helped support the single currency.
Traders also remained focused on the upcoming European Central Bank meeting.
Although softer inflation gives policymakers more flexibility, continued geopolitical and energy-market risks could complicate future rate decisions.
Energy Risks Support a Cautious ECB Outlook
Tensions in the Middle East have raised concerns about oil and gas supplies.
Higher energy prices could create renewed inflation pressure across Europe.
Therefore, investors have not completely ruled out a more cautious or hawkish approach from the European Central Bank.
The euro entered the weekend in a relatively firm position as traders balanced cooling inflation against geopolitical risks.
Yen Remains Near Four-Decade Low
The Japanese yen stayed close to its weakest level in approximately four decades.
The USD/JPY pair traded near 162.4, not far from the recent high of 162.84.
The wide difference between US and Japanese interest rates continued to support the dollar against the yen.
Prime Minister Sanae Takaichi’s fiscal spending plans also added pressure to the Japanese currency.
Japan Warns Against Excessive Currency Moves
Investors remained alert to the possibility of government intervention in the foreign-exchange market.
Finance Minister Satsuki Katayama said Japanese authorities were prepared to respond to excessive currency movements.
Japan previously spent a record ¥11.73 trillion supporting the yen between late April and late May.
However, recent official comments were less forceful than earlier promises to take bold action.
Investors Doubt Portfolio Changes Can Rescue Yen
Katayama has encouraged major institutional investors, including the Government Pension Investment Fund, to increase their exposure to Japanese assets.
Such a shift could create additional demand for the yen.
However, investors remain doubtful that portfolio changes alone can reverse the currency’s decline.
Many traders believe the yen will remain under pressure unless the interest-rate gap between Japan and the United States narrows.
Currency Markets Focus on Central Banks
The outlook for major currencies will depend heavily on central-bank policy and geopolitical developments.
Softer US inflation has weakened expectations for another Federal Reserve rate hike, placing pressure on the dollar.
Meanwhile, the pound has benefited from reduced political uncertainty, while the euro remains supported ahead of the European Central Bank meeting.
The yen, however, continues to struggle as investors watch for possible intervention from Japanese authorities.
