Dollar firms on safe-haven boost; pound slips as Burnham takes charge of the UK

The U.S. dollar firmed on Monday, boosted by safe-haven demand after President Donald Trump vowed to make Iran ’pay’ for the killing of three U.S. service members. 

The tense situation in the Middle East will likely be a major driver for the greenback this week amid a dearth of economic data and the Federal Reserve’s communications blackout. Monetary policy cues had been a primary catalyst for the dollar’s decline last week, as positive inflation data had led to a paring of near-term interest rate hike expectations.

Meanwhile, the sterling slipped as Andy Burnham took office in Downing Street, becoming the United Kingdom’s seventh prime minister in a decade. The Labour Party member, who took over from Keir Starmer, reaffirmed his commitment to follow the previous government’s fiscal rules.

At 15:55 ET (19:55 GMT), the U.S. dollar index, which tracks the greenback against a basket of six major peers, was up 0.2% to 100.94.  

Monetary policy watchers get a Fed breather, but ECB on deck 

The dollar is coming off a weekly decline of 0.2%, after economic data showed a moderation in the headline U.S. consumer price index and producer price index. Separately, gasoline station retail sales fell on a monthly basis, while University of Michigan data showed July consumer sentiment hitting its highest level since February and a fall in year-ahead inflation expectations.

The indicators suggested some breathing room for the Fed in terms of not immediately tightening policy. According to the CME FedWatch tool, the odds of a quarter-point rate hike at the end of July have fallen to around 16% from nearly 42% earlier in the month.

However, the June moderation in price pressures was largely due to a slide in oil prices after the U.S. and Iran inked their interim peace deal. The escalation in tensions since has led to oil prices spiking once again, bringing inflationary fears back on the table. Several Fed speakers, including chair Kevin Warsh to Congress, said the fight against inflation was far from over, with Dallas Fed President Lorie Logan calling for "modestly higher" interest rates. 

While the U.S. economic calendar is largely empty this week and the Fed has entered its communications blackout period, monetary policy watchers will be keeping an eye on the European Central Bank’s (ECB) rate decision on Thursday. The ECB in June became the first G7 reserve bank to raise borrowing costs in order to combat the inflationary shock caused by the Middle East conflict.

Traders are preparing for relatively hawkish commentary from ECB policymakers, who are widely expected to keep interest rates steady this time but retain an aggressive data-dependent posture for the autumn.

"The (Overnight Index Swap) market assigning a 5% probability to an ECB policy rate hike this week, but we can’t completely rule it out. For one, ECB policymakers have said that the meeting is ’live’, and the Governing Council’s hawkish camp is likely to have become emboldened by the recent rise in oil prices. A 25bp hike in the Depo Rate (to 2.50%) would still leave the policy rate within the neutral range. We think a 33% probability of a rate hike is more defensible," Thierry Wizman, global FX and rates strategist at Macquarie, said.