US Dollar Strengthens as Fed Maintains Interest Rates Amid Economic Uncertainty

Economic

Forex

Summary:

The U.S. dollar extended its gains following the Federal Reserve’s decision to keep interest rates unchanged at 4.25%-4.50%. Market confidence in a sustained high-rate environment supported the greenback...

Federal Reserve’s Decision and Its Impact on the US Dollar

The Federal Reserve’s decision to hold interest rates steady at its first policy meeting of 2025 reinforced market expectations that borrowing costs will remain elevated for the foreseeable future. Fed Chair Jerome Powell emphasized a cautious stance, signaling that rate cuts would not be imminent despite growing speculation about easing monetary policy later in the year. Instead, Powell reaffirmed the Fed’s commitment to monitoring inflation and employment data before making any policy adjustments.

This announcement reassured investors, bolstering demand for the U.S. dollar. The greenback benefited from the perception that a prolonged period of high interest rates in the U.S. would continue attracting capital inflows. The decision also underscored the Fed’s careful balancing act—maintaining restrictive monetary conditions to combat inflation while preventing undue strain on economic growth.

US Dollar Index and Currency Market Reactions

Following the Fed’s announcement, the U.S. Dollar Index (DXY), which measures the dollar’s performance against six major currencies, climbed to 107.95, marking a 0.08% increase. This upward movement reflected investor sentiment that the Fed would not rush to ease its monetary stance, contrasting with expectations of rate cuts from other central banks, particularly the European Central Bank (ECB).

While the dollar strengthened against the Swiss franc, rising 0.35% to 0.907 CHF/USD, it weakened against the Japanese yen, declining 0.17% to 155.25 JPY/USD. The decline against the yen can be attributed to increasing speculation that the BoJ may raise interest rates, narrowing the gap between U.S. and Japanese yields. The euro also weakened against the dollar, falling 0.17% to 1.041 USD/EUR, as traders anticipated a more dovish stance from the ECB.

The DXY had previously hit its lowest level in a month at 106.96 on January 28, driven by a selloff in global tech stocks that prompted investors to seek safe-haven assets like the yen and Swiss franc. However, since Donald Trump’s victory in the November 2024 presidential election, the dollar index has climbed over 4%, fueled by expectations that his administration’s policies would drive increased economic activity in the U.S.

Trump’s Trade Policies and Global Market Uncertainty

Despite the dollar’s recent gains, market concerns over Trump’s potential trade policies persist. Howard Lutnick, a billionaire and Trump’s nominee for Commerce Secretary, indicated during his Senate confirmation hearing that he supports a country-specific tariff policy. If implemented, such policies could disrupt global trade flows, influencing inflation and currency valuations.

While tariffs might strengthen domestic manufacturing, they could also drive up costs for imported goods, contributing to inflationary pressures. If inflation remains persistent, the Fed may be forced to keep interest rates elevated for longer than expected, further supporting the dollar. However, if Trump’s policies lead to trade tensions or retaliatory measures from other nations, investor sentiment could shift, impacting global currency dynamics.

Global Central Bank Policies and Market Outlook

The foreign exchange market remains highly sensitive to monetary policy decisions from major central banks. In Canada, the Bank of Canada (BoC) reduced its policy rate by 25 basis points to 3%, warning that Trump’s trade stance could have significant implications for the Canadian economy. Meanwhile, data from the ECB indicated an uptick in corporate lending, suggesting that previous rate cuts were beginning to impact the European economy. Market analysts widely expect the ECB to announce further rate reductions at its policy meeting on January 30.

In Japan, an upcoming meeting between Prime Minister Shigeru Ishiba and Donald Trump, scheduled for February 7 in Washington, could provide further insight into potential trade agreements and their impact on the yen. A stronger Japanese yen could pressure Japan’s export-driven economy, potentially prompting BoJ intervention to stabilize the currency.

Domestic Market Stability in Vietnam Amid Lunar New Year Holiday

In Vietnam, domestic currency exchange rates remained stable as banks closed for the Lunar New Year holiday. Vietcombank, Vietinbank, and BIDV maintained their USD/VND buy and sell rates at similar levels as previous trading sessions. With no major trading activity during the holiday period, fluctuations in global markets had minimal immediate impact on Vietnam’s foreign exchange market.

The U.S. dollar’s resilience underscores investor confidence in the Fed’s cautious but firm approach to monetary policy. While the greenback remains well-supported amid expectations of prolonged high interest rates, global economic uncertainties—ranging from Trump’s trade policies to central bank decisions—introduce volatility into currency markets. The coming weeks will be critical in shaping the dollar’s trajectory as traders assess the Fed’s stance, upcoming U.S. economic data, and policy responses from other central banks.

Source: Reuters

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Forex

Economic

The year is not off to a good start for the French economy, following a very weak end to 2024. The business climate remained almost stable in France in January, at 95, a level below its long-term average. Business sentiment was stable in the services sector, but below its long-term average in almost all service sub-sectors, except for real estate activities. According to business leaders in the services sector, perceived uncertainty is once again on the rise.

Business sentiment is also stable in the construction and retail sectors, but order books are shrinking. In industry, the business climate is deteriorating due to a sharp fall in order books, which are at their lowest level since 2014. In wholesale trade, the business climate is deteriorating again.

Collectively, these data point to a weak start to 2025, following negative fourth-quarter growth due to political and budgetary uncertainty, the aftermath of the Olympic Games and a less buoyant international environment.

The uncertainty surrounding the 2025 budget continues to weigh on domestic demand, which is likely to persist over the coming months. In particular, household consumption is likely to remain very subdued. Despite falling inflation and rising real wages, increased fears about unemployment and uncertainty are likely to lead to a further rise in the household savings rate. Uncertainty and the limited potential for a fall in long-term interest rates also mean that investment by households and businesses will remain subpar in 2025.

With exports likely to be hit by renewed trade tensions, there is every reason to believe that industrial activity in France will be very modest over the coming months. The service sector, meanwhile, should continue to fare better than industry, but a slowdown is also expected. Today's data indicate that order books are still falling in the construction sector, which is likely to have another difficult year.

The business climate data confirms our forecast of very weak growth in the first quarter, of around 0.1% quarter-on-quarter, compared with -0.1% in the fourth quarter of 2024. This weak start to the year means that GDP growth is likely to be just 0.6% in 2025, compared with 1.1% in 2024 and 2023, lower than the 0.9% expected by the government. A recovery should take place in 2026, but in a difficult international environment and with a restrictive French fiscal policy, it could remain limited to 1%.

Source: ING

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Adam

Commodity

Economic

Market Response to Trump's Tariff Threats

The primary factor influencing crude oil markets this week was President Donald Trump’s renewed threat to impose a 25% tariff on imports from Canada and Mexico, which could take effect as early as February 1, 2025. The policy aims to pressure both countries into stricter control over fentanyl shipments to the U.S., but it remains unclear whether oil exports will be included in these tariffs.

Trump’s administration has yet to confirm if exemptions will be granted for crude oil imports. On January 30, the President stated that a decision regarding tariff waivers for Canadian and Mexican oil was still under consideration. Given that the U.S. heavily relies on these two trading partners for crude supply, imposing tariffs could disrupt North American energy flows and impact domestic fuel prices.

North America’s Oil Trade Dependence

According to the U.S. Energy Information Administration (EIA), in 2023, Canada exported 3.9 million barrels of crude oil per day to the U.S., while Mexico supplied 733,000 barrels per day. In total, U.S. crude oil imports averaged 6.5 million barrels per day in 2023, making Canada and Mexico the two largest foreign suppliers.

If tariffs were imposed, it could significantly increase the cost of oil imports, prompting U.S. refiners to look for alternative sources. However, North America’s integrated supply chains make it challenging to substitute such a large volume of crude oil in the short term. This uncertainty is contributing to oil price fluctuations.

Supply Disruptions and Strategic Reserve Rebuilding

Beyond trade policies, analysts highlight supply-side risks as another major driver of oil price movements. Daniel Hynes, a strategist at ANZ Bank, noted that geopolitical risks and trade disruptions under the Trump administration could keep oil prices elevated. Additionally, the U.S. Strategic Petroleum Reserve (SPR) is undergoing replenishment, increasing demand for crude oil. The U.S. government has been gradually purchasing oil to rebuild reserves after significant drawdowns in 2022 and 2023.

The upcoming OPEC+ meeting on February 3, 2025, is another key event shaping market sentiment. The cartel, along with major non-OPEC producers like Russia, is expected to review production quotas in response to shifting global supply conditions.

A major factor in OPEC+ deliberations is the recent U.S. sanctions on Russian oil, which have removed over one million barrels per day from global supply. As a result, the oil-exporting bloc must reassess production targets to maintain market stability. Analysts expect that OPEC+ may consider extending or deepening supply cuts to counterbalance the impact of reduced Russian exports.

Oil Market Volatility Likely to Persist

Crude oil prices are facing significant short-term volatility as investors react to evolving trade policies, geopolitical tensions, and supply chain disruptions. While concerns over Trump’s tariff policies weigh on the market, the U.S. SPR replenishment and potential OPEC+ production adjustments could provide support to oil prices.

With multiple market-moving events ahead—including Trump’s final decision on tariffs, the OPEC+ meeting, and ongoing geopolitical developments—oil prices are likely to experience further fluctuations in the coming weeks. The extent to which U.S. policies and global supply constraints interact will determine the longer-term trajectory of the oil market.

Source: CNBC

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Economic

Inventories gone wild

Admittedly, inventories may not seem like the most exciting topic at first glance. However, the past few years have been marked by multiple shocks, distorting the traditional inventory management model. After decades of reducing inventory-to-sales ratios in an increasingly integrated world economy ("The world is flat," remember that one?), the post-pandemic supply chain shocks led to the realisation that too low a level of inventories can cause major disruptions.

Increased geopolitical tensions have undoubtedly contributed to this sentiment. At the same time, inventories are costly. Thus, it remains a delicate balance between maintaining a comfortable level of inventory and avoiding excessive levels.

Manufacturing remains a major drag on growth

Where it becomes interesting for a macroeconomist is that inventory cycles can have a significant impact on GDP growth. Since the start of the Monetary Union, inventory changes have added between -1.4 and 0.9 percentage points to year-on-year GDP growth on a quarterly basis.

A lot depends of course on the mood in the manufacturing sector. Is there increased optimism, leading to more rapid stock building or does pessimism prevail, causing inventory reductions?

The eurozone manufacturing sector is going through a very difficult period, to put it mildly. Relatively high energy prices, the Inflation Reduction Act in the US (which has attracted investments to the US), insufficient domestic demand, and China exporting its excess capacity to the rest of the world, are weighing on sentiment. Since the last quarter of 2022, the added value in eurozone manufacturing has fallen by more than 7%. The uncertainty regarding potential import tariffs in the United States is not helping to reverse the situation rapidly.

High inventories are likely to impact GDP negatively

Why Manufacturing Continues to Weigh on Eurozone growth: It’s the Inventory Cycle, Stupid!_1

Continued struggles in the first quarter

The December survey of the European Commission showed weakened orders in the manufacturing sector, and the flash PMI indicated this trend continued in January. At the same time, the assessment of stock levels increased to a level last seen during the financial crisis. The combination of high inventories and falling demand is likely to weigh on growth, as companies will first try to reduce their inventories before producing more.

As the graph suggests, this could imply a significantly negative growth contribution from inventories in the first quarter. Admittedly, some of this negative impact will be offset by net exports, as inventories typically have a high import component (the PMI survey mentioned companies buying fewer inputs), but that will not erase the negative GDP impact entirely. The bottom line is that we continue to believe that the winter months will see eurozone GDP (at best) stagnating on the back of the ongoing crisis in manufacturing.

Downward pressure of retail inventories on goods inflation is petering out

Why Manufacturing Continues to Weigh on Eurozone growth: It’s the Inventory Cycle, Stupid!_2

Non-energy goods inflation bottoming out

While the inventory cycle will weigh on growth in the short run, an optimist might suggest that high inventories can also reduce goods inflation. Companies might be more willing to accept price concessions to get rid of excess inventories. This is certainly true, but when discussing consumer price inflation, it makes more sense to look specifically at inventories in the retail sector. Indeed, surveys on stock levels there have been a good leading indicator of goods price inflation.

While inventories are still perceived to be high, it doesn't appear that there will be much more downward impact on goods inflation.

Source:ING

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Jason

In the mercy of tariffs

The US dollar has staged a recovery this week, corroborating the notion that the latest pullback on news that Trump may adopt a softer stance on tariffs than his pre-inauguration rhetoric suggested, was just a corrective phase.

Tariffs remained the main driver, with Wednesday’s Fed decision adding some extra fuel to the rebound. After Colombia succumbed to Trump’s threats, investors’ concerns were amplified again, with many perhaps thinking that the US President may harden his rhetoric to get what he wants from the rest of the world. And indeed, Trump himself confirmed that view after he rejected reports that US Treasury secretary Scott Bessent is pushing for only 2.5% tariffs that would be gradually lifted to 20%, saying that tariffs would be “much bigger.”

In the shadows of the first imposition of 25% tariffs on Canadian and Mexican imports on February 1, the Fed decided on Wednesday to keep interest rates unchanged. At the press conference following the decision, Fed Chair Powell acknowledged signs of progress in reducing inflation, adding though that “non-market” prices remain stubbornly high and stressing that they are in no hurry to make further adjustments. They will wait for more clarity on the economic front as well as on government policy.

From around 50bps worth of rate reductions for this year, Fed fund futures are now pointing to 45bps as investors lifted only slightly the implied rate path. The next quarter-point reduction is still nearly fully priced in by June.

Nonfarm Payrolls enter the limelight

With all that in mind, attention next week is likely to fall on the NFP employment report for January. Powell noted that further labor market weakening is not needed for the inflation target to be met as the path for continued disinflation remains intact. However, he did not mention what will happen in the case of unexpected labor market tightening.

In December, the economy added 256k jobs, with average hourly earnings ticking down, but remaining elevated close to 4.0% y/y. Another round of strong employment and wage growth could intensify concerns about a resurgence of inflation in the months to come, especially if Trump kicks off the tariff game on February 1. Market participants are likely to start doubting again whether two rate cuts will be needed this year, which could allow the US dollar to extend its latest recovery.

The ISM manufacturing and non-manufacturing PMIs on Monday and Wednesday, as well as the ADP private employment report on Wednesday will also be closely monitored ahead of Friday’s NFP data.

Will the BoE opt for a hawkish cut?

After the BoJ, the Fed, the ECB and the BoC, it will be the BoE’s turn to hold its first policy decision for 2025. Following the concerns over the sustainability of the new government’s fiscal plans, where UK bonds and the pound tumbled on fears of a Truss 2.0 budget crisis, investors became more convinced that a rate cut would be appropriate at this gathering.

Taking also into account the cooler-than-expected CPI numbers for December and the sluggish UK growth, investors are now penciling in around a 90% chance of a quarter-point rate cut at this gathering, while anticipating nearly another two by the end of the year.

That said, both the headline and the core inflation rates remain above the Bank’s objective of 2%, with the latter standing at 3.2% y/y. What’s more, although the surge in bold yields was largely reversed, the pound recovered only a portion of its losses. It is actually the worst performing major currency so far this year, posing upside risks to UK inflation.

Therefore, even if the well-anticipated rate cut is delivered, it may be a hawkish cut, with the Bank revising up its inflation projections, especially with rent inflation remaining stagnant at 7.6% y/y and services inflation still above 4.0% y/y. Officials may signal that they will take their decisions meeting by meeting, avoiding to pre-commit to any future rate cuts. This may disappoint those expecting another two reductions this year and thereby allow the pound to gain some more ground.

Will the jobs data allow the BoC to take the sidelines?

At the same time with the US jobs data, Canada releases its own employment report for January. This week, the Bank of Canada trimmed interest rates by another 25bps and revised down its growth forecasts, noting that they are concerned about US tariffs.

However, they also added that tariffs could also stoke persistently high inflation, which led market participants to pencil in around a 50% probability for policymakers to take the sidelines at the next policy gathering in March.

In other words, the BoC will find itself between a rock and a hard place and Friday’s jobs report may help tilt the scale towards a pause or another rate cut, depending on whether it will come in strong or soft.

Eurozone CPIs, NZ employment and Japan’s wages

Flying from Canada to the Eurozone, the ECB also decided to reduce interest rates this week, noting that the disinflationary process is well on track and that the economy is still facing headwinds. In the statement, it was noted that the Bank is still not pre-committing to a particular rate path. At the post-decision conference, President Lagarde said that interest rates are still in restrictive territory and that there was no discussion on whether it’s time to stop reducing rates.

The market was quick to price in around an 85% chance for another quarter-point cut in March and should Monday’s flash CPI data reveal cooling inflation, that probability could go even higher, thereby weighing on the euro. Eurozone’s retail sales are also on next week’s agenda.

Elsewhere, during Tuesday’s Asian session, New Zealand’s employment report for Q4 could prove crucial on whether the RBNZ will cut by 25 or 50bps, while the following day, Japan’s wage data for December could shape expectations about the BoJ’s next rate increase.

On the earnings front, the tech-related reporting continues with Alphabet and AMD on Tuesday, and Amazon on Thursday.

Source: ACTIONFOREX

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Manuel

Economic

Political

Investors are bracing for a looming hit to U.S. corporate profits and pressure on inflation if President Donald Trump makes good on his tariff threats, with markets seen as not fully factoring in risks from higher levies on foreign imports.

President Donald Trump is vowing to issue tariffs as soon as Saturday on Canada, Mexico and China, the three largest U.S. trading partners.

As the tariff deadline nears, investors have been trying to gauge whether the potential duties on imports might be a negotiating tool, as Trump and members of his administration have addressed the topic over the past week.

"It's adding a lot of volatility to expectations because of the back and forth and the rhetoric on a daily basis," said Leo Harmon, chief investment officer at Mesirow Equity Management.

Harmon said he expects some level of tariffs to be implemented with the market reaction dependent on the extent of the duties.

"If those tariffs come in higher than expectations... there could be a potential for a day or two of risk-off leadership in the market," Harmon said.

Trump has set a Saturday deadline for issuing 25% tariffs on imports from Mexico and Canada, unless they move to halt flows of illegal immigrants and the deadly opioid fentanyl into the United States. He has also said he would impose a 10% tariff on Chinese goods over that country's role in the fentanyl trade.

On Friday, Trump said nothing could be done by the three countries to forestall the tariffs, although he did reference a potential carve out for oil from Canada.

Barclays strategists estimate that the tariffs could lead to a 2.8% drag on S&P 500 company earnings, including the projected fallout from retaliatory measures from the targeted countries.

"You're having global supply chains that are going to have to be reworked or rethought," said Matthew Miskin, co-chief investment strategist at John Hancock Investment Management. "It can increase cost structures for companies."

Some tariffs will be passed on to consumers in the form of higher prices, LPL Research analysts said earlier this month.

Goldman Sachs economists have estimated that across-the-board tariffs on Canada and Mexico would imply a 0.7% increase in core inflation and a 0.4% hit to gross domestic product.

The potential to drive up consumer prices is a particularly sensitive area for investors, who are worried about a revival in inflation causing the Federal Reserve to stop cutting interest rates. The U.S. central bank this week paused its rate-cutting cycle, while Fed Chair Jerome Powell said officials were "waiting to see what policies are enacted" with the new president.

Gene Goldman, chief investment officer at Cetera Financial Group, said he expected weakness in equity markets if Trump goes through with tariffs this weekend.

"The combination of high valuations ... and the inflation-inducing effect of tariffs and the consequent effect on Fed policy would cause stocks to sell off," Goldman said.

Jim Smigiel, chief investment officer at SEI, said markets could start factoring in the possibility of interest rate rises if tariffs set off inflation.

"The non-zero probability of a hike I think has crept into investors' minds," Smigiel said.

With the S&P 500 near all-time highs, the index could move 3% to 5% in either direction in the short term, depending on what Trump announces with tariffs, Evercore ISI strategists said in a note.

Colin Graham, head of multi-asset strategies at Robeco in London, said the firm was debating closing a position in long-duration Treasuries before the weekend.

Some Wall Street analysts said the potential tariffs appeared to be being used more as a negotiating tactic.

“I think Trump is more bark than bite, and is trying to use the threat of penalties to hammer out better trade agreements with our major partners," said Talley Leger, chief market strategist at The Wealth Consulting Group.

Investors had braced for Trump to move swiftly to implement tariffs when his second term began on Jan. 20, and the lack of tariffs so far has been a relief for markets. Tariffs are seen as one of the more negative potential policies for stocks countering benefits stemming from Trump's expected pro-growth agenda of reduced taxes and regulations.

BCG Global Chief Economist Philipp Carlsson-Szlezak said 25% tariffs on Canada and Mexico "would be a jolt."

But, he said, "it would also at least bring some clarity of, how does the administration want to play tariffs?"

Source: Reuters

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Manuel

Commodity

Big Oil executives this week saw little prospect of a near-term improvement in refinery profits after Chevron, Exxon Mobil and Shell all reported fourth-quarter earnings that were hit hard by a downturn in the margins for producing fuel.

An increase in global refining capacity in 2024, combined with sputtering demand growth has hurt refining margins.

Chevron's shares declined 4% after it reported a loss in its refining business for the first time since 2020, causing the No. 2 U.S. oil producer to miss Wall Street's profit estimate.

"This trend we have seen of margins softening through 2024 is something you can expect to continue to see, to extend into 2025," Chevron CEO Mike Wirth said in an interview.

"It was a weak fourth-quarter, there's no doubt about it," he said on a post-earnings conference call in response to a question from an analyst about the refining downturn.

"I'm not going to call it a perfect storm, but it was a quarter in which everything went one way and it was negative."

Wirth said Chevron would focus on what it can control in order to bounce back, including lighter scheduled maintenance for refineries over the next year.

Exxon Mobil's shares fell 2.5% after it reported a 75% plunge in adjusted earnings from refining compared with the third quarter. The broader S&P 500 Energy Sector index was down 2.8% on Friday.

The refining business remains under pressure from additional fuel supply entering the market after new refineries opened in different countries around the world, said Exxon's Chief Financial Officer Kathryn Mikells in an interview.

"That's really what we're watching as we look ahead to 2025," she said.

The No. 1 U.S. oil producer still beat profit estimates with higher production from the Permian basin, the top U.S. oilfield, and Guyana, the latest oil hotspot.

UK-based Shell said on Thursday that while it had no plans to exit the refining business, it did not plan to expand either.

The company's fourth-quarter earnings nearly halved from the previous year to $3.66 billion, partly due to weaker refining margins.

Shell sold its refining and chemicals hub in Singapore last year and plans to shut down another plant in Wesseling, Germany.

HIT TO INDEPENDENT REFINERS

While higher oil and gas production helped cushion oil majors from the impact of lower refining profits, the pure-play refiners took a hit as fuel demand faltered in the U.S. and China, the two largest oil consumers.

Phillips 66's fourth quarter profit plummeted to $8 million from $1.26 billion in the year-ago quarter. Valero's refining profit dropped 73% in the fourth quarter.

Two U.S. refineries are set to close this year and limited capacity additions beyond 2025 will help support refining margins over the long term, said Valero CEO Lane Riggs on Thursday.

Investors were also worried about U.S. President Donald Trump's threats to impose tariffs on crude imports from Canada and Mexico on Feb. 1, which could raise costs for U.S. refiners.

French oil major TotalEnergies will report fourth quarter results on Feb. 5 and British oil producer BP reports on Feb. 11.

BP has warned that a drop in refining margins and the impact of turnaround and maintenance activity would result in an up to $300 million decrease in profit quarter-on-quarter.