Dollar dips as US inflation cools

The dollar lost ground yesterday as US data showed inflation had cooled further. The euro has risen to over $1.11 while sterling is up to around $1.30, the highest level for both in over a year. The single currency gained a small amount of ground on sterling late on in trading but remains at 85p.

The annual rate of US CPI inflation fell to 3.0% in June from 4.0% in May. This is the lowest rate in over 2 years and down from the recent high of 9.1% recorded in June of last year. Core inflation also fell back last month, to an annual rate of 4.8%, lower than expectations of a 5.0% rate. With inflation now coming into sight of the 2.0% target rate – though still with a bit to go –  this increases the chances that we are coming close to the end of the Fed tightening cycle, with markets now pricing in just one more hike of 25bps at this month’s meeting before pausing.

In government bond markets, US 10-year yields declined, down about 10bps to 3.85%. Equivalent UK yields also fell, down c. 15bps to 4.5%, while German yields also dipped, down to 2.55%.

The Fed’s latest beige book – a survey of economic conditions – said that ‘overall economic activity (in the US) increased slightly since late May’ however reports for most regions warned that expectations of activity for the next few months ‘generally continued to call for slow growth’. The labour market remains robust with most reporting jobs growth but difficultly in finding workers and, in good news for the Fed, while prices continued to rise in most regions it was at a slower pace and inflation expectations were generally stable or lower for immediate future.

Two ECB members, Philip Lane and Boris Vujcic, were out yesterday urging some caution about where the ECB will go after July’s meeting when a 25bps hike is more or less certain. Chief economist Lane warned that given the lags in monetary policy transmission the full impact of previous tightening is yet to be felt but will be more event (via changes in bank lending etc.) in the coming months. He refused to be drawn on September’s meeting. While Vujcic said that while September’s meeting is ‘very open’ the ECB needs more data but a softening in the services sector is already apparent and excess household savings are now ‘pretty much exhausted’ which might affect demand going forward.

In the UK, GDP fell less than expected in May, down 0.1% month-on-month (following a 0.2% gain in April) when the c0nsensus forecast was for a 0.3% drop. The extra bank holiday for the coronation had less of negative impact than expected with manufacturing, services and construction all doing a little better than forecast in the month. Despite this small upside surprise, GDP growth in the 3 months to May was flat and the outlook remains unchanged for little growth in the UK. Elsewhere, the UK housing market continues to slow with the RICS house price balance falling to -46% in June from -30% in May, much lower than expected, with the outlook remaining negative as the market deals with the impact from the sharp rise in interest rates.

Data due today includes Euro Area industrial production, ECB minutes and US PPI and jobless claims while Fed Governor Waller is due out.