Commerzbank’s Thu Lan Nguyen notes that despite stronger-than-expected US inflation, retail sales and producer prices, the Dollar and EUR/USD have largely reverted to pre-data levels. She argues that without a shift toward more overall Federal Reserve tightening, US rate expectations and the US–Euro area differential stay broadly sideways, leaving recent EUR/USD weakness driven more by Euro softness than by the US outlook.

Dollar struggles despite robust data

“Surprisingly strong US consumer price data on Wednesday were followed yesterday by stronger-than-expected retail sales and producer price figures. This adds to the evidence that price pressures are becoming increasingly broad-based. Nevertheless, the dollar was unable to hold on to its gains from Wednesday.”

“For the US dollar to benefit sustainably from stronger US data, however, it is not enough for the market simply to bring forward the timing of the next Fed rate hike. What matters is whether the market expects more monetary tightening overall. Put differently, whether the Fed raises rates in October or waits until December is ultimately of secondary importance for the US dollar as long as this remains the final rate hike.”

“For the dollar to receive lasting support, the market would need to price in more tightening overall than it did previously. So far, that has not happened. US rate expectations for the end of this year have barely moved in recent days.”

“There is another factor at play. The market also continues to expect the ECB to raise rates once more by the end of the year, and that expectation has changed little as well. As a result, the interest rate differential between the US and the euro area priced in for year-end has been moving broadly sideways for some time.”

“The recent sharp decline in EUR/USD can therefore be explained less by a shift in the US rate outlook and more by weakness in the euro.”