The recently published report on U.S. CPI growth has not favored the greenback. All components of the release came in the red zone, reflecting a slowdown in inflation. This has dealt a significant blow to the dollar, which has found itself under pressure and failed to capitalize on the geopolitical factor despite another round of escalation in the Middle East. Specifically, the EUR/USD pair surged nearly 100 pips (relative to the intra-day low), testing the resistance level of 1.1460, which corresponds to the upper line of the Bollinger Bands on the H4 timeframe. Other currency pairs similarly changed their configurations, reflecting the overall weakening of the greenback.
In my opinion, such a market reaction is quite justified, given the dynamics of the key indicators and the main components of the release.
The overall Consumer Price Index fell to -0.4% month-on-month in June, against a forecast decline to -0.1%. This indicator has entered negative territory for the first time since April last year and has set a six-year low. Year-on-year, the overall CPI has also sharply slowed down from 4.2% (a three-year high) to 3.5%. Most analysts anticipated a more modest decline to 3.8%.
Core inflation has also slowed, although the vast majority of experts expected core metrics to remain at May's level in June. On a month-on-month basis, the core indicator came in at zero (0.0%), while the market expected it to pick up to 0.2%. Year-on-year, the core CPI slowed to 2.6%, down from 2.9% in May. The forecast was for 2.8%.
The structure of overall inflation indicates that energy factors played a significant role in its decrease. The energy index fell by 5.7% in June (following substantial growth in previous months), and the decline in gasoline prices was one of the main drivers behind the overall reduction in CPI.
Such dynamics were predictable against the backdrop of June's drop in oil prices. Therefore, for markets, the core inflation figure proved to be much more important, as it slowed more than expected.
First, this suggests that the spring surge in inflation might have been a temporary phenomenon rather than the beginning of a new sustained inflationary impulse. Not so long ago, many market participants and some Federal Reserve representatives were concerned that rising producer costs might gradually be passed on to consumers, forming a second wave of price increases. However, June's data does not provide grounds to indicate that such a scenario is taking shape.
Second, and particularly important, the slowdown in core inflation occurred in components crucial to the Fed. The moderate price growth in the services sector (traditionally the most resilient segment of inflation) and the lack of acceleration in domestic price pressures indicate that the fundamental inflation trend continues to move toward the Fed's target level.
It should also be reiterated that one other important point was mentioned earlier. The core CPI in June decreased year-over-year not due to the high baseline effect from last year, but because there was no monthly price increase. On a month-on-month basis, the core CPI has shown a downward trend for the second consecutive month (April: 0.4%, May: 0.2%, June: 0.0%). This is an important signal for the Fed, as this consistent monthly dynamic indicates whether inflationary inertia persists.
Of course, it is premature to declare complete victory over inflation. The annual (overall) CPI at 3.5% remains significantly above the target 2% level, and the geopolitical situation remains a serious risk factor, especially in light of the new round of escalation in the Middle East. The new wave of rising oil prices can put pressure on the overall index through transportation and energy costs.
Nonetheless, the June report has become a serious argument in favor of softening the Fed's rhetoric regarding its further possible actions. For example, the probability of a rate hike at the July meeting has decreased to 12% (according to data from the CME FedWatch tool), down from 30-35% prior to the publication.
The dollar's reaction to the release has been indicative, especially against the backdrop of recent events. The renewed strengthening of risk-averse sentiment due to the situation in the Middle East failed to provide the greenback with full support, while the inflation report put significant pressure on the DXY (the dollar index fell sharply to 100.30 after soaring to 101.14). This indicates that "classic" fundamental drivers (first and foremost, expectations regarding the Fed's further steps) are currently exerting a stronger influence on the currency market.
As for the EUR/USD pair, its near-term outlook will depend on whether buyers can build momentum following the initial reaction to the CPI. In this context, traders should closely watch price behavior around the resistance level of 1.1460 (the upper line of the Bollinger Bands on the H4 timeframe). A consolidation above this level will open the path for further growth toward the 15 figure, specifically the next price barrier at 1.1550 (the middle line of the Bollinger Bands on the W1 timeframe). Failure by EUR/USD buyers to break through the resistance level of 1.1460 will indicate a continuation of the consolidation phase with a subsequent potential pullback into the price range of 1.1380–1.1410.
