Dollar Depreciates in Light of CPI, Pound Stabilizes

The U.S. dollar declined on Wednesday amid a cautious environment ahead of the release of U.S. consumer prices, while sterling lost ground after the release of positive inflation data.

The dollar index, which tracks the greenback against a basket of six currencies, was trading 0.2% lower at 108.895, off more than two-year highs set earlier in the week.

Dollar Retreats From Highs

The dollar saw modest losses following Tuesday’s release of U.S. producer price index (PPI) data, which pulled Treasury yields off their peaks. Attention now shifts to the CPI release, expected to shed more light on inflation trends.

Economists anticipate that the headline CPI rose 0.4% month-on-month in December, slightly higher than November’s 0.3% increase. Year-on-year, the CPI is forecasted to rise to 2.9%, compared to 2.7% in November. Core CPI, excluding volatile items like food and energy, is expected to remain unchanged from November, at 0.3% month-on-month and 3.3% year-on-year.

Concerns about persistent inflation have been amplified by strong employment data from the previous week and President-elect Donald Trump’s proposed strict tariff policies, which have raised fears of additional price pressures.

“Markets are factoring in U.S. protectionism but not a universal tariff applied all at once. Even gradual tariff hikes could dampen optimism. A higher-than-expected CPI today could make investors nervous about inflation even before tariffs are enacted,” ING analysts noted.

Sterling Struggles Despite CPI Slowdown

In Europe, GBP/USD traded flat at 1.2221, hovering slightly above its lowest levels since November 2023. Earlier on Wednesday, data revealed that U.K. inflation had slowed unexpectedly in December.

The annual inflation rate dropped to 2.5% from November’s 2.6%, according to the Office for National Statistics. This prompted investors to increase their expectations of a February rate cut by the Bank of England, with an 82% probability of a quarter-point reduction. Markets have now priced in two rate cuts for 2025, compared to a 60% chance prior to the inflation report.

Sterling has struggled this year, burdened by rising bond yields and higher borrowing costs. Concerns are growing that the Labour government may need to curb spending or increase taxes to adhere to fiscal rules, potentially stifling future growth.

“Under normal conditions, such low inflation would collapse the pound, but it remains stable. This highlights sterling’s current sensitivity to long-term exchange rate fluctuations, similar to an emerging market currency,” ING analysts added.

EUR/USD Slightly Higher Amid Lower Inflation in France

The EUR/USD pair rose slightly to 1.0312 following confirmation of moderating consumer inflation in France in December.

“Negative U.S. dollar developments yesterday brought EUR/USD back to 1.030, but we expect U.S. CPI data to apply renewed pressure. The Eurozone data calendar is light, with no major market-moving releases, though ECB members Lane, Guindos, Villeroy, and Vujcic will speak,” ING highlighted.

The euro remains pressured by concerns over weak economic growth in the region and fears of U.S. tariff threats. The European Central Bank is expected to cut interest rates by approximately 100 basis points in 2025, with most reductions anticipated in the first half of the year.

Yen Strengthens on Bank of Japan Comments

In Asia, USD/JPY fell 0.7% to 156.86 as the yen gained following remarks from Bank of Japan (BOJ) Governor Kazuo Ueda. Ueda stated that the central bank would consider raising interest rates and reducing monetary support if economic and price conditions improve.

The comments came a day after Deputy Governor Ryozo Himino indicated that the BOJ would discuss rate hikes at next week’s policy meeting.

Meanwhile, USD/CNY traded flat at 7.3318, remaining near a 16-month high. The People’s Bank of China is set to decide on its benchmark lending rate later this week, as investors keep an eye on Beijing’s next policy moves.