The US dollar traded steadily on Friday but remained on course to record a weekly decline. Softer US inflation data encouraged traders to reduce expectations for an imminent Federal Reserve interest rate hike.
However, escalating hostilities between the United States and Iran increased demand for safe-haven assets, limiting the dollar’s losses.
Middle East Conflict Supports Safe-Haven Demand
Iran and the United States exchanged increasingly intense attacks during a week-long escalation. The renewed conflict has largely undermined the ceasefire agreed the previous month.
Growing geopolitical uncertainty encouraged investors to seek protection in the US dollar. Meanwhile, oil prices climbed toward their highest level in nearly a month as concerns over potential supply disruptions increased.
The dollar continues to benefit from its status as both a safe-haven currency and one of the highest-yielding currencies among major developed economies.
Euro and Sterling Head for Weekly Gains
The euro traded near $1.1437 and was on track to gain approximately 0.2% for the week.
The British pound stood at around $1.3476. Sterling was heading for a weekly increase of roughly 0.56%, marking its third consecutive week of gains.
The pound received support as concerns surrounding the United Kingdom’s fiscal outlook continued to ease.
Japanese Yen Remains Near 40-Year Low
The Japanese yen traded at approximately 162.39 against the US dollar. It remained close to the 40-year low of 162.84 reached at the beginning of the month.
Traders remained alert to the possibility of intervention by Japanese authorities.
Japanese Finance Minister Satsuki Katayama repeated that the government was prepared to take decisive action against excessive or disorderly currency movements.
These comments have increased caution among traders considering further bets against the yen.
Dollar Index Set for Weekly Decline
The US Dollar Index, which tracks the currency against six major peers, stood near 100.72. It was heading for a weekly decline of approximately 0.24%.
The index touched a one-month low earlier in the week after traders reduced the probability of a near-term Federal Reserve rate hike.
Nevertheless, safe-haven demand linked to the Middle East conflict helped the dollar recover from its weakest levels.
OCBC strategists noted that the dollar remains the highest-yielding safe-haven currency within the G10 group.
They added that short-term foreign exchange movements could continue to follow the so-called “dollar smile” framework.
Under this theory, the dollar tends to perform well during periods of strong US economic growth and rising interest rates. It can also strengthen when global risk aversion increases.
US Economic Data Shows Continued Resilience
US retail sales increased slightly in June, according to data released on Thursday.
Lower gasoline prices reduced revenue at petrol stations. However, strong online spending encouraged economists to raise their estimates for second-quarter economic growth.
Additional data also indicated that the US labour market remained relatively stable.
Together, the figures suggested that the economy continued to expand despite high borrowing costs and ongoing concerns about inflation.
Cooler Inflation Reduces Fed Rate Hike Expectations
Recent data showed that US consumer price inflation cooled in June.
As a result, economists broadly expect the Federal Reserve to leave interest rates unchanged at its upcoming policy meeting.
Market expectations for a July rate hike fell to approximately 11%, compared with an implied probability of 25% one week earlier, according to the CME FedWatch tool.
Traders were still pricing in around 26 basis points of interest rate increases by December.
However, some analysts believe the Federal Reserve may avoid both rate hikes and cuts throughout 2026.
Inflation Risks Have Not Disappeared
Despite the encouraging inflation report, some investors warned against drawing strong conclusions from a single month of data.
Karen Manna, a fixed-income portfolio manager at Federated Hermes, said it was too early to declare that a sustained disinflation trend had returned.
Federal Reserve officials may also be reluctant to place too much importance on one positive report after several months in which inflation moved in an unfavourable direction.
Therefore, future inflation, employment and consumer spending figures will remain important for the central bank’s policy outlook.
Australian and New Zealand Dollars Extend Gains
The Australian and New Zealand dollars were both heading for a third consecutive week of gains.
However, the Australian dollar weakened by approximately 0.24% during Friday’s session to around $0.6981. A cautious market environment reduced demand for risk-sensitive currencies.
The New Zealand dollar traded near $0.5838.
Chinese Yuan Pulls Back From Monthly High
China’s yuan weakened after recently reaching a one-month high against the dollar.
Despite Friday’s decline, the currency remained on track to record its third straight weekly gain.
Markets showed a limited reaction after US President Donald Trump renewed accusations that China had interfered in US elections.
The comments could place additional pressure on the fragile truce between Trump and Chinese President Xi Jinping. However, they did not immediately trigger a major move in foreign exchange markets.
ECB Interest Rate Decision Comes Into Focus
Investors will turn their attention to the European Central Bank’s policy meeting next week.
The ECB is widely expected to keep interest rates unchanged, according to a Reuters poll of economists.
However, expectations for a possible rate increase at the following meeting are growing.
The decision and accompanying guidance could influence the euro and shape expectations for monetary policy across major economies.
For the US dollar, the short-term outlook will likely depend on two competing forces: declining expectations for Federal Reserve rate hikes and rising safe-haven demand caused by geopolitical tensions.
