The US dollar remained near a two-week low on Wednesday as the Japanese yen strengthened sharply and expectations for tighter monetary policy in Europe increased.
At the same time, crude oil moved closer to $100 per barrel, adding to concerns that higher energy costs could revive inflation pressures across major economies.
US Dollar Index Slips Below 99
The Dollar Index, which tracks the greenback against six major currencies, fell below the 99 level and traded around 98.60.
The index remained close to its lowest level in nearly two weeks at 98.15.
The weaker dollar reflected a combination of stronger demand for the yen, rising expectations for higher European interest rates and shifting global capital flows.
Euro Rises Ahead of ECB Meeting
The euro moved higher on Wednesday, reaching a more than one-week high near $1.1615.
Currency traders were focused on the upcoming European Central Bank meeting on Thursday, where markets expect policymakers to maintain a hawkish stance.
Growing concerns about inflation, particularly from rising energy prices, have increased expectations that the ECB could tighten monetary policy further.
Japanese Yen Extends Strong September Rally
The Japanese yen remained one of the strongest-performing major currencies.
The currency traded near 153.65 per dollar, holding close to the seven-month high of 152.89 reached in the previous session.
That level represented the yen’s strongest position against the dollar since February.
The yen has gained roughly 4% in September, helped by changing interest-rate expectations and the unwinding of short-yen carry trades.
BOJ Rate Hike Expectations Support the Yen
Markets are increasingly confident that the Bank of Japan could raise interest rates by 25 basis points at its September 17-18 policy meeting.
Traders are also watching for any indication from Governor Kazuo Ueda that further policy normalization could follow before the end of the year.
Expectations for tighter Japanese monetary policy have reduced the attractiveness of strategies that rely on borrowing cheaply in yen and investing in higher-yielding foreign assets.
As those positions are unwound, demand for the yen can increase.
Capital Repatriation Adds Further Yen Support
Japanese institutional investors have also been bringing more capital back into domestic markets.
Official data showed that Japan’s foreign securities holdings fell by a record $87.8 billion in August.
The decline came alongside a large-scale currency support operation by Japanese authorities worth approximately 15.4 trillion yen, or $96.4 billion.
Narrowing interest-rate differences between Japan and Western economies are also encouraging investors to reconsider overseas allocations.
This has created a more persistent source of demand for the yen.
Oil Nears $100 as Inflation Risks Grow
Crude oil prices also remained a major factor in global currency markets.
Brent crude rose around 1.5% toward $100 per barrel, increasing concerns that higher energy prices could feed directly into inflation.
The move followed a fresh escalation in Middle East tensions, including attacks linked to Iranian-backed Houthi forces and military exchanges involving US and Iranian assets.
Markets are increasingly concerned that prolonged instability in the region could disrupt energy supplies.
ECB Rate Hike Bets Strengthen
Higher oil prices have also strengthened expectations that the European Central Bank could raise rates by 25 basis points.
Money markets have moved close to fully pricing in such a move at Thursday’s ECB meeting.
A rate increase would lift the benchmark deposit rate as policymakers continue trying to control persistent inflation.
For the euro, expectations of tighter monetary policy have provided additional support against the dollar.
US CPI Becomes the Next Major Market Test
With the dollar under pressure, traders are now turning their attention to the upcoming US Consumer Price Index report.
The inflation data will be closely watched because it represents one of the final major economic releases before the Federal Reserve’s September 15-16 policy meeting.
Investors are currently weighing several competing forces.
A strong US labor market continues to support the case for tighter monetary policy. However, rising energy prices and geopolitical risks are adding fresh uncertainty to the inflation outlook.
Dollar Outlook Hinges on Rates and Inflation
The near-term direction of the US dollar is likely to depend heavily on upcoming inflation data and central bank decisions.
A stronger yen, higher European rate expectations and rising oil prices have all contributed to recent dollar weakness.
The next moves from the Federal Reserve, ECB and Bank of Japan could therefore determine whether the dollar extends its decline or begins to recover.
