The Federal Reserve (Fed) is set to announce its interest rate decision on Wednesday, with markets widely expecting the Federal Open Market Committee (FOMC) to keep rates unchanged in the range of 3.5%-3.75% for the fifth consecutive meeting in July [1][2]. However, the CME FedWatch Tool indicates a roughly 30-31% probability of a 25 basis points (bps) rate hike, up from 15% a week ago, reflecting increased uncertainty due to rising crude Oil prices and renewed inflation concerns [1][2].
Crude Oil prices have rebounded sharply, with West Texas Intermediate (WTI) climbing above $90 from $67 at the beginning of July, following US-Iran tensions and halted naval activity in the Strait of Hormuz [1]. Although a pause in strikes led to a correction, WTI remains up nearly 20% for the month [1]. On Wednesday, WTI traded around $83, up more than 5% on the day, supporting the Canadian Dollar (CAD) due to Canada’s status as a major crude exporter [2]. Despite this, the US Dollar (USD) remains broadly stronger, with the US Dollar Index (DXY) at 101.45, rebounding from an intraday low of 101.24 [2].
Strategists at OCBC note that the perceived risk of near-term Fed tightening has shifted, with the probability of a July rate hike rebounding to 35% as higher oil prices reignite inflation concerns [1]. They suggest that a hold accompanied by hawkish guidance could push expected rate hikes further out the curve without materially altering the roughly 55bp of cumulative tightening priced in through mid-2027 [1]. Conversely, a decision to leave rates unchanged with little explanation could be interpreted as dovish and create confusion about the Fed's reaction function [1].
Analysts at MUFG observe that the recent pullback in Oil has eased some urgency around further tightening, noting that in the near-term, the correction lower in energy prices will dampen rate hike expectations for central banks ahead of the Fed’s, BoE’s, and BoJ’s latest policy meetings this week [1]. Technical analysis of USD/CAD shows a modestly bullish near-term bias, with the pair trading above key moving averages and capped by the 21-day SMA at 1.4123, suggesting a consolidative tone [2].
The Fed’s decision will be announced at 18:00 GMT, followed by Fed Chair Kevin Warsh’s press conference at 18:30 GMT [1]. If the Fed announces a 25 bps rate hike, it would be seen as a hawkish surprise and boost the USD, causing EUR/USD to turn south [1]. If rates are held steady, the number of hawkish dissents will be a key factor for market reaction [1].
CONCLUSION
The Federal Reserve is expected to hold rates steady, but elevated oil prices and inflation risks have increased the odds of a potential rate hike. Markets remain highly sensitive to the Fed's guidance and any surprises in the decision, with significant implications for USD and related currency pairs. The outcome and tone of the Fed's announcement will be pivotal for short-term market direction.