FX Daily: Dollar Enjoys Fed’s Hawkish Adjustment

The dollar is largely holding the gains it made on last night's hawkish turn by the Fed. It could strengthen a little further on any upside surprises in US activity or inflation data, but this is not 2022, and any Fed tightening will be an adjustment, not a tightening cycle. Look out for policy rate meetings in Europe, where the Czech National Bank should hike.

USD: Fed story can underpin dollar this summer

Kevin Warsh's debut as Fed Chair delivered a 10bp bearish flattening of the curve and a stronger dollar. As we discuss in our review of the FOMC meeting, the big commitment to price stability and the hawkish swing in the Dot Plots were the key drivers of the move. Whether that hawkish stance gets softened by the findings of the five new Fed task forces remains to be seen. But presumably any results will take quite some time to emerge.

With nine of the 18 Fed members seeing at least one hike this year, the Fed looks prepped to move should inflation continue to drift in the wrong direction. Without any forward guidance in the curtailed FOMC statement or in Warsh's press conference, it will therefore be interesting to see whether Fed members are allowed to say anything about the future policy path in their speeches. These will start next week. Our house view is that inflation could turn a little lower later this year and the Fed can avoid tightening.

The dollar is holding gains, but probably does not need to rally too much more. The market now has 44bp of Fed tightening priced in by the second quarter of next year, which looks close to the type of modest adjustment most Fed members pitched in their Dot Plot projections. And with rate cuts still envisaged for 2027 and 2028, this Fed profile is supportive of the tone we took in this month's FX Talking: Dollar Decline Delayed (not abandoned). After all, this is not 2022, and the Fed is not about to launch another 500bp tightening cycle.

The US focus today will be on the weekly jobless claims, the Philadelphia business outlook and later tonight the April TIC data – the TIC data is so far showing no signs of a foreign exodus from US asset markets. DXY tested the top of its 12-month range at 100.50/60 yesterday. And while the dollar may stay bid, we do not see a catalyst for a major upside breakout. This is especially so given lower energy prices on the US-Iran deal being signed and a supportive risk environment.

EUR: Steady amid rate meetings in Europe

EUR/USD had a strong test of 1.1500 on the hawkish FOMC last night, but there might not be too much appetite to take it substantially lower just now. The ball is now back in the ECB's court and whether it chooses to hike in the July or September meetings – or not hike rates at all. At this stage, and given the house view that the Fed is not going to hike, 1.14/1.15 can remain the lower end of the range this summer. On the data front today, we will see the ECB's current account data for April. This could continue to narrow in the higher energy bill seen at the time.

Elsewhere, we have rate meetings in Switzerland and Norway in early Europe. We see the Swiss National Bank on a prolonged pause. There could be some slight upside risk to EUR/CHF today not only from a neutral SNB, but also from higher global rates in general after last night's Fed and some potentially better news out of the Middle East. EUR/CHF can head back to the 09250 area.

Chris Turner

In Norway, we expect a Norges Bank hold today, in line with consensus. This after the collapse in oil prices and some implicit hints at a pause in May. At the same time, we think markets may be underestimating the chances of a surprise hike today (only 4bp priced in).

Underlying CPI accelerated to 3.4% in May, and Norges Bank’s inflation concerns have been broader and predate the war. So if it holds as we expect, there are good chances it'll strike a hawkish tone, keeping the door wide open to another hike in the coming months. Market pricing is 22bp by September, and may shift to expect a hike in August. We therefore see some upside risks for NOK.

GBP: BoE will try to ride out the inflation spike

The highlight of today's session is the Bank of England meeting at 1300CET. This comes after this morning's release of private sector wage growth at 2.9% three-months/year-on-year – the first 3% number since 2020. Combined with generally soft employment figures, today's data provides fuel to the views from the BoE doves that the risks of second-round inflation effects are low.

Please see our full BoE preview here. Our call is for a 7-2 vote for unchanged policy (slight risk of 6-3), but presumably the need to sound hawkish to ride out this inflation shock. Our bottom line, however, is that inflation is going to peak around the 3.5% area later this year and the BoE will avoid tightening.

Expect more pressure on GBP/USD as the dollar enjoys a run against those currencies whose central banks are trying to avoid tightening this year – such as in Canada and Sweden. GBP/USD could drift to the 1.3200 area over the coming weeks.

There is also the small matter of the Makerfield by-election. Assuming Andy Burnham wins, the focus will quickly switch to whether PM Starmer quietly plans his succession or fights on. Neither of which looks good for sterling. EUR/GBP looks biased to 0.8680/8700.

CZK: Insurance rate hike supports further koruna gains

The Czech National Bank is likely to raise rates by 25bp to 3.75% today, the first time since mid-2021. Although headline inflation surprised down to 2.1% in May, core inflation rose to 2.9%. At the same time, 1Q26 wages surprised to the upside, although much of it follows downward revisions in previous quarters. The reasons for the hike are therefore more local than directly related to the US-Iran conflict. However, the central bank probably sees risks to the upside and wants to hike rates pre-emptively for safety. We expect such communication from the governor today without a commitment to another hike but with an open space for further increases if necessary.

Our economists' baseline remains one hike, but the bar for another hike is relatively low given the core inflation of 2.9% in May. If we were to see core inflation going above 3.2% in the coming months and, at the same time the ECB continuing with rate hikes, where one more hike is our baseline, this could create grounds for another CNB hike later.

Given the end of the US-Iran conflict and the decline in oil prices, the market has priced out a large portion of the rate hikes and has stabilised pricing around 2x25bp, including today's session, which seems almost fully priced in. If the CNB delivers a rate hike coupled with hawkish communication, which is our baseline, we see one additional hike as a floor for what the market can price in and we see upside for rates here.

EUR/CZK is grinding lower from mid-May and goes into today's meeting from levels slightly below 24.150. Due to the CNB's hawkishness, we remain bullish on the koruna and see a case for testing 24.000 if the CNB delivers a hike and maintains a hawkish bias.