USD: Hawks and conflict are propping up the dollar
The dollar index kept its recovery going yesterday, rising another 0.2% and building on the bounce from January’s 95.551 low. It has now advanced every day this week and is pressing up towards the 50 day moving average, which sits roughly around 98. With a heavy US data calendar due today, especially the PCE release, there is a decent chance that level gets tested. The move higher this week has been driven by a more hawkish Fed tone after the January minutes, plus rising geopolitical tension as the US deploys significant military assets in the Middle East to pressure Iran over its nuclear programme. Oil has pushed higher too, reaching its strongest levels since the June 2025 Iran-US flare up, which has also helped support the dollar.
Even so, the broader mood towards the dollar is still not great. Investors remain wary of the currency and the debasement theme is still very much in play. The next major issue on the radar is Warsh as Fed Chair, and how that might sit alongside President Trump’s preference for lower rates. For now though, that risk has cooled a bit. The appointment is now known, and the choice is not as dovish as some of the alternatives, so markets seem to be pausing on that concern and letting the dollar refocus on a rates path that still leans hawkish.
Longer term, the idea of a strong US macro backdrop in 2026 supporting the dollar needs a bit more nuance. The market is likely reading the data differently now compared with 2025, when the main debate was whether tariffs were dragging on growth. Back then, upside US surprises sparked stronger dollar rallies because they also improved sentiment around the economy’s ability to absorb tariff pain. Now, with trade uncertainty much less of an issue and US resilience already partly priced in, the focus has shifted back to the basics, mainly whether inflation is cooling enough to justify more cuts this year. That likely means a more measured dollar reaction function in the months ahead, where good data still helps, but does not produce the same explosive upside moves.
In the near term though, we still think the dollar can push back above 98, and today’s PCE data could be the trigger. Inflation is expected to edge higher. A lot of that is already in the price, but the Fed’s own disinflation path still leaves inflation above target this year. That is why even an in line print, if it hints at upside risk, could keep the hawkish camp engaged and give the dollar another leg of support.
EUR: Rates are trying to take control of EUR/USD
EUR/USD has traded lower all week and is now sitting below 1.18. Part of this looks like a technical washout after the aggressive rally that took the pair to levels last seen in 2021. But the bigger pressure this week came from wider rate differentials in the dollar’s favour, with geopolitics adding another push and helping override the still soft sentiment around the dollar.
On the US side, stronger ADP weekly change and firm industrial production supported the story of a steadier labour market and resilient activity, and the Fed minutes reinforced that message. On the euro side, the main development was Lagarde’s expected early departure. This looks political as much as monetary, with the timing seemingly designed to let Merz and Macron influence the next ECB appointment before France’s 2027 election, where Le Pen, who is euro sceptic, is currently leading. That backdrop naturally brings some risk premium back into the euro at a time when central bank independence is becoming a live market theme again, in the US and to some extent Japan too.
There were also fresh dovish signals from ECB officials around the risk of inflation undershooting, and rate markets are starting to reflect it. OIS now prices around a 30% chance of an ECB cut by November. That is a notable shift, especially given that the same point on the curve was still pricing some chance of a hike back in December.
That said, this week’s move in rate spreads in favour of the dollar still looks fragile unless incoming data clearly backs the idea of a hawkish Fed versus a dovish ECB. We are not there yet, and geopolitics is muddying the normal rates to FX transmission anyway. So for now, we are not ready to call 1.18 a firmly re established resistance level again, even though that remains our medium term view.
GBP: Strong UK numbers fail to rescue sterling
Sterling is heading for its worst weekly fall against the dollar in over a year, with GBP/USD down 1.4% and breaking key support as it approaches the 200 day moving average near 1.3445. The sell off reflects a clear dovish shift in UK data. Unemployment has moved higher, wage growth has eased and headline inflation has dropped sharply, which has pushed markets to price around an 80% chance of a Bank of England cut in March. Catherine Mann’s comments on labour market risks only added to that repricing.
This morning’s data did give sterling something to work with, but the market has mostly ignored it. Retail sales jumped 1.8% in January, the strongest monthly increase since May 2024, and public finances delivered a record January surplus of £30.4bn. That at least gives the Chancellor something supportive to point to ahead of the Fiscal Statement on 3 March, even if it has barely moved the dial on the UK’s overall debt picture.
Even with those upside surprises, sterling still looks trapped by the bigger story, which is a labour market that is losing momentum and inflation that is cooling faster than expected. That combination leaves the pound struggling to stabilise. Markets are now treating every weak UK release as confirmation that the BoE will need to move sooner, and sterling is being priced that way. The result is a currency that remains vulnerable, especially with most of its risk premium already gone and fresh political noise around next week’s by election likely to create another headwind.
