A series of softer-than-expected US inflation data, including the Producer Price Index (PPI) for July, has led to a reassessment of Federal Reserve (Fed) rate hike expectations, impacting major currency pairs and supporting risk assets. The US PPI was unchanged in July after a 0.1% decline in June, with the annual rate slowing to 4.7% from 5.5%. Core PPI rose 0.2% month-on-month, down from 0.4%, and the yearly rate eased to 4.2% from 4.7% [1][2]. These figures, alongside in-line Consumer Price Index (CPI) data and a weaker-than-expected July Nonfarm Payrolls report, have prompted traders to scale back the probability of a September Fed rate hike. According to the CME FedWatch Tool, the probability of a September hike has dropped to around 32%, down from 55% a week ago [1]. Source [2] reports money markets pricing in a 60% chance of a Fed hold, with only a slim chance of a 25-basis-point hike, while Source [3] cites a 40% probability, highlighting some discrepancy in market expectations.
The US Dollar Index (DXY) has retreated modestly, trading around 99.90 according to [1] and 99.83 according to [2], reflecting a slight weakening of the Greenback. This has resulted in currency-specific moves: the Japanese Yen (JPY) struggled to gain traction against the US Dollar, with USD/JPY trading around 159.37 after briefly dipping toward 159.00 post-PPI release [1]. Despite growing expectations for a September Bank of Japan (BoJ) rate hike, the Yen remains under pressure, with analysts at MUFG noting that Japanese policymakers may rely on the threat of FX intervention to slow Yen weakness, but warn that failure to hike in September could trigger further selling [1]. Meanwhile, the British Pound (GBP) registered modest gains versus the USD, with GBP/USD trading at 1.3503, up 0.06% [2].
Market reactions have been relatively muted overall. US Treasury yields initially fell on the inflation data but quickly reversed, with the yield curve steepening and the USD finishing little changed [3]. Risk assets continued to rally, supported by strong AI infrastructure-related earnings and investment themes [3]. OCBC analysts argue that this constructive environment, together with improved risk sentiment and a broadly range-bound USD, should keep carry trades supported, though they caution that higher long-end US yields driven by AI-related financing and US fiscal deficits remain a key risk [3].
Fed officials have maintained a hawkish tone, with Cleveland Fed's Beth Hammack advocating for higher rates to restrain growth and inflation, and Richmond Fed President Thomas Barkin describing the need for further hikes as an "open question" [2]. Looking ahead, markets will be watching upcoming US and UK economic data, including the University of Michigan Consumer Sentiment and UK inflation figures, for further direction [2].
CONCLUSION
Softer US inflation data has led to a reduction in Fed rate hike expectations, resulting in a modestly weaker US Dollar and supporting risk assets and carry trades. The Japanese Yen remains under pressure despite intervention threats, while the British Pound has seen slight gains. Market sentiment is cautiously constructive, but risks remain if long-end US yields rise further.