US Dollar edges lower following soft PCE inflation data

The US Dollar struggles to build on weekly gains on Friday.
The US Dollar Index stays near 101.50 following Thursday's rally.
US PCE inflation data for June came in softer than expected.

The US Dollar stays under modest selling pressure on Friday after posting strong gains against its rivals on Thursday. The USD index – which tracks the USD's valuation against a basket of six major currencies – retreated from the multi-week high it touched at 102.00 but managed to stabilize near 101.50.

Inflation in the US, as measured by the change in Personal Consumption Expenditures (PCE) Price Index, fell to 3% on a yearly basis in June from 3.8% in May, the US Bureau of Economic Analysis reported on Friday. This reading came in below the market expectation of 3.1%.

Core PCE Price Index, the Federal Reserve's preferred gauge of inflation, arrived at 4.1% on a yearly basis, down from 4.6% in May and below the market forecast of 4.2%. Further details of the publication revealed that Personal Income and Personal Spending increased 0.3% and 0.5% on a monthly basis, respectively.

Daily digest market movers: US Dollar on track to post weekly gains

The real Gross Domestic Product (GDP) of the US expanded at an annualized rate of 2.4% in the second quarter, the US Bureau of Economic Analysis' (BEA) first estimate showed on Thursday. This reading followed the 2% growth recorded in the first quarter and surpassed the market expectation of 1.8% by a wide margin.
According to the US Department of Commerce, in seasonally adjusted term Durable Goods Orders jumped 4.7% on a monthly basis to reach $302.5bn. Meanwhile, the latest data published by the US Department of Labor (DOL) showed that Initial Jobless Claims decreased by 7,000 to 221,000 in the week ending July 22.
According to the CME Group FedWatch Tool, the probability of one more rate increase this year is back above 30% after latest US data. The benchmark 10-year US Treasury bond yield stays within a touching distance of 4% following Thursday's upsurge.
Wall Street's main indexes opened higher on Friday, led by a nearly-2% increase in the technology-heavy Nasdaq Composite Index.
The Fed raised its policy rate by 25 basis points (bps) to the range of 5.25%-5.5% following the July policy meeting as expected. The Fed made little adjustments to the policy statement from June and the publication failed to trigger a market reaction. In the post-meeting press conference, Powell's cautious comments on further policy tightening caused the USD to come under renewed selling pressure.
Powell refrained from confirming another rate hike this year and said that every policy meeting will be live. "If we see inflation coming down credibly, we can move down to a neutral level and then below neutral at some point," Powell told reporters and noted that the policy was already restrictive.
Commenting on the Fed event, "Fed Chair Jerome Powell refused to give forward guidance and stressed the importance of data. The bank will make decisions on a meeting-by-meeting basis. While it upgraded its comments on the economy – moderate instead of modest growth – it sees expansion as a good thing," said FXStreet Analyst Yohay Elam. "Regarding the burning topic of inflation, the Fed is holding off the champagne bottles, saying the latest report could be a one off. Nevertheless, it sees current policy as restrictive. "
Consumer sentiment in the US continued to improve in July, with the Conference Board's Consumer Confidence Index rising to 117.0 from 110.1 (revised from 109.7) in June.
Further details of the publication showed that the Present Situation Index climbed to 160.0 from 155.3 and the Consumer Expectations Index advanced to 88.3 from 80.
US S&P Global Manufacturing PMI improved to 49.0 in July's flash estimate from 46.3 in June. Services PMI edged lower to 52.4 from 54.4 in the same period. Finally, Composite PMI declined to 52.0 from 53.2, pointing to an ongoing expansion in the private sector's business activity, albeit at a softening pace.
Commenting on PMI surveys' findings, "July is seeing an unwelcome combination of slower economic growth, weaker job creation, gloomier business confidence and sticky inflation," said Chris Williamson, Chief Business Economist at S&P Global Market Intelligence. "The overall rate of output growth, measured across manufacturing and services, is consistent with GDP expanding at an annualized quarterly rate of approximately 1.5% at the start of the third quarter," he added.

Technical analysis: US Dollar Index holds above key technical level

The US Dollar Index (DXY) closed above the 20-day Simple Moving Average, currently located at 101.40, for the first time in three weeks on Thursday. As long as this level stays intact, buyers could remain interested. On the upside, 102.00 (static level, former support) aligns as next resistance ahead of 102.50-102.60 (50-day SMA, 100-day SMA) and 103.00 (psychological level, static level).

In case DXY makes a daily close below 101.40, next bearish target could be set at 101.00 (static level) before 100.50 (static level) and 100.00 (psychological level, static level).

Inflation FAQs

What is inflation?

Inflation measures the rise in the price of a representative basket of goods and services. Headline inflation is usually expressed as a percentage change on a month-on-month (MoM) and year-on-year (YoY) basis. Core inflation excludes more volatile elements such as food and fuel which can fluctuate because of geopolitical and seasonal factors. Core inflation is the figure economists focus on and is the level targeted by central banks, which are mandated to keep inflation at a manageable level, usually around 2%.

What is the Consumer Price Index (CPI)?

The Consumer Price Index (CPI) measures the change in prices of a basket of goods and services over a period of time. It is usually expressed as a percentage change on a month-on-month (MoM) and year-on-year (YoY) basis. Core CPI is the figure targeted by central banks as it excludes volatile food and fuel inputs. When Core CPI rises above 2% it usually results in higher interest rates and vice versa when it falls below 2%. Since higher interest rates are positive for a currency, higher inflation usually results in a stronger currency. The opposite is true when inflation falls.

What is the impact of inflation on foreign exchange?

Although it may seem counter-intuitive, high inflation in a country pushes up the value of its currency and vice versa for lower inflation. This is because the central bank will normally raise interest rates to combat the higher inflation, which attract more global capital inflows from investors looking for a lucrative place to park their money.

How does inflation influence the price of Gold?

Formerly, Gold was the asset investors turned to in times of high inflation because it preserved its value, and whilst investors will often still buy Gold for its safe-haven properties in times of extreme market turmoil, this is not the case most of the time. This is because when inflation is high, central banks will put up interest rates to combat it.
Higher interest rates are negative for Gold because they increase the opportunity-cost of holding Gold vis-a-vis an interest-bearing asset or placing the money in a cash deposit account. On the flipside, lower inflation tends to be positive for Gold as it brings interest rates down, making the bright metal a more viable investment alternative.

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