FX Daily: Dollar Debasement Trade In Retreat

The dollar remains reasonably supported as the market awaits today's US May CPI release. Growing expectations that the Fed will have to respond to this year's inflation shock have seen US real rates rise 60bp over the last six weeks and force an unwind of last year's dollar debasement trade. Assuming core CPI stays firm today, the dollar should stay bid

USD: Core CPI will be key today

The dollar is largely holding onto its gains made last week. Equity markets remain very volatile as investors shuffle portfolios ahead of Friday's SpaceX IPO. Oracle is due to report earnings after the close today to provide the latest insight into the AI data centre buildout and its revenue opportunities. But it is a big day for US economic data too. The highlight will be the release of the May CPI report, where headline inflation is expected to rise above the 4.0% YoY level for the first time since May 2023 and core CPI is expected to rise 0.3% month-on-month and 2.9% (2.8% prior) YoY. Assuming those levels are delivered, expect the market to continue pricing a Fed hike in December and the dollar to stay supported.

One slight wrinkle for dollar bulls could be the core CPI release. Given the rough make-up of the core basket (shelter 45%, services 25-30%, goods 20-25%), any signs today that the loss of disposable income was impacting consumer spending in other parts of the economy could rein in some of the more hawkish Fed tightening scenarios. And we know pressure on rents is weighing on the shelter component. Thus, a 0.2% instead of a 0.3% could be the risk on core CPI month-on-month today, which could see short-dated rates edge a little lower and the dollar soften. But a hot PPI print tomorrow and next week's FOMC should keep the dollar bid on dips.

And the view that the Fed will react to this inflation shock has been central to the dollar's recovery over the last month. US real interest rates (we look at two-year USD swap rates against the zero-coupon inflation swap) have risen 60bp over the last six weeks. The rise in real rates has pressured last year's dollar debasement trade, which had assumed that a captured Fed would do the bidding of the White House. The rise in real rates has punished popular debasement trade targets such as gold, bitcoin and the Swiss franc. Keep an eye on key support levels in gold and bitcoin, such as $4100/oz and $60,000 for signs of more money leaving that trade and more money entering the dollar. And a higher USD/CHF looks to be a key vehicle in this debasement retreat. Also noteworthy was the $99bn which flowed into USD-denominated money market funds last week – the highest of the year.

With continued upside risks to energy prices, we expect to see DXY remaining bid on dips. Any soft core CPI reading could see DXY test the 99.50/60 area, but the direction of travel looks to be the 100.40/50 area into next week.

EUR: Consolidating into ECB

EUR/USD will be driven by US data today. There is also a slight upside risk to the euro tomorrow should the ECB, after a 25bp rate hike, fail to rule out a hike at the July meeting. The market does not expect back-to-back rate hikes. 1.1575 may well be the top of the short-term trading range again today, and we suspect that even a firm US CPI print today may struggle to see EUR/USD break 1,1500 support ahead of what could be a hawkish ECB meeting tomorrow.

Elsewhere, we have just the Norwegian underlying May CPI coming in at an above-expected 3.4% year-on-year reading. That will firm up the view that Norges Bank will tighten another 25bp to 4.50% later in the year. The Norwegian krone has been one of the beneficiaries of this energy crisis. And given a house view of higher oil and gas prices into July, we would expect the krone to continue out-performing.

With US tech stocks looking vulnerable again, renewed buying interest may emerge in NOK/SEK after its recent 2.5% correction. That said, long NOK/SEK looks to be a widely held position. On the subject of energy, look out for the weekly US EIA oil inventory data today. Consensus expects a 3mn barrel drawdown. A much bigger number – like 7 or 8 million barrels – could send oil and energy currencies bid again now that the world is increasingly looking at the inventory situation.

CAD: Bank of Canada to lean dovish today

We expect the Bank of Canada to lean dovish when it announces its policy decision at 1545CET today. Canada is in a technical recession as trade and stalled investment weigh on the economy. Uncertainty around USMCA renegotiations in July is weighing on sentiment and news that Alberta wants to gain independence (initial referendum in October) is not helping.

Unlike many central banks being on the front foot against energy-driven inflation, most expect the BoC to be in no rush to tighten slightly expansionary monetary policy. And we doubt that expectations for the first BoC hike, currently priced for December, will move much after today's BoC update. This leaves the Canadian dollar as a laggard in the G10 space. Depending on what happens with US CPI today, USD/CAD could be pressing strong resistance in the 1.3970/4000 area.

CZK: Potential CNB hikes painting bullish picture for FX

Inflation in the Czech Republic surprised on the downside last week, as did Poland and Hungary. The May numbers fell from 2.5% to 2.1% YoY. Today the final estimate will be published, which should confirm the flash numbers, but the focus will be on core inflation, which seems more important for the central bank these days. The importance is growing especially after the 1Q26 wage numbers surprised to the upside and, in real terms with 6.4% YoY. It is one of the highest wage growth numbers in history. We expect core inflation to remain roughly stable between 2.8-2.9% from April's 2.9%. The Czech National Bank expects 2.8 YoY.

Without much surprise today, the CNB seems to be heading for a rate hike at the June meeting next week. The blackout period before the meeting starts on Thursday and we are likely to see more comments from the bank board. Even though the rate hike is largely priced in, we believe the decision itself has the potential to boost FX as the start of a cycle. Even though the CNB is unlikely to interpret this decision as the start of a series of rate hikes, the market will want to price in more tightening. EUR/CZK could thus test 24.00 next week with ambitions for more koruna gains later as the Czech Republic is an early hiker within the EM space, painting a bullish picture for the CZK.