US Dollar Gets Hit By Weaker CPI Report
As expected, the consumer prices report set the tone for the US dollar early on in the New York morning. It wasn’t industrial production, TIC or even current account that set the day’s theme. It was inflationary pressures. Forever a harbinger of interest rate decisions to come, it seems that the report quells some speculation, at least for now, that rate hikes are in the foreseeable future. For the month, consumer prices rose better than the 0.6 percent consensus. However, dealing the dollar a death blow, core figures pared back, rising by only 0.1 percent. With slow but stable growth likely, inflationary pressures will come in line and keep pace with overall economic expansion. As a result, rate hikes will no longer be needed in calming what some deem as uncontrollable consumer prices. Confidence in this notion was more than evident as the US dollar fell the most in almost two months against the Euro, dropping against the British pound as well. Subsequently, next week doesn’t look be any better as momentum from today’s report will likely emanate along with the dearth of US data scheduled.

Bank of Japan Leaves Rates Alone, Markets Sets Focus On August
No surprise here, the Bank of Japan left rates alone at the current 0.5 percent. However, bearishly supportive for the underlying Japanese yen was the fact that Governor Fukui stated he needed to “be more confident about the outlook for the economy and prices.” Although growth and inflationary pressures have seemed to tick slightly higher, central bank members were “in absolute agreement that there are still many factor that need to be examined closely.” Simply put, Fukui suggested that the market shouldn’t expect higher rates in the world’s second largest economy for the time being. With Japanese elections coming up in the next month, speculation is now setting sights on a plausible August decision of 25 basis points, leaving scope for a definitive move in September. Incidentally, the ultimate decision is also a reminder of, not only how conservative the Bank of Japan stands, but how influenced monetary policy makers seem to be. Market sentiment had supported a move by policy makers this month in order to reaffirm the central bank’s independence against the headline government. The notion was backed by the fact that gross domestic product had grown to almost double the pace of the world’s largest economy, the US, while inflationary pressures remained weak but steady.

ECB Weber Confirms Hawkish Bias For Euro
Other than US dollar data, the Euro had support from comments made in the overnight regarding further inflationary pressures, supportive of higher interest rates in the Eurozone. According to European Central Bank council member Axel Weber, inflationary pressures are expected to “remain above our stability threshold” lending the monetary authority to “do what is necessary to maintain price stability.” Although this is nothing new, the market has been pricing in the likelihood of two more rate hikes by the end of the year, it does provide the market for ample impetus in making a push higher. Incidentally, the effects were exacerbated as the economic schedule was relatively absent for the day, with the exception of the region’s April trade balance which improved higher than expected, rising 1.8 billion euros in the month of April. Subsequently, it was revealed that the trade gap with China expanded by a whopping 33 percent (for more insight click here). The enlarged deficit is likely to spur further rhetoric from the EU Trade Commission, similar to that of US Congressman in the previous week. Separately, Swiss April adjusted retail sales figures were higher by 3.2 percent. Positive for the Swiss economy as a whole, the figure was well below the 5.5 percent expected by the consensus, leaving some room for selling the franc.

British Pound Recovers To 1.9770 On Retail Sales
While a bout of US dollar weakness surely helped propel the British pound’s 70 point rally this morning, stronger than expected UK economic data gave the currency a nice boost as well. Retail sales during the month of May rebounded 0.4 percent after contracting the month prior, running counter to the BRC indicator for the same period and boding well for consumption trends. Today’s release underpins much of Bank of England Governor Mervyn King’s hawkish bias, as any additional constriction of capacity pressures will add to fears that inflation is far too high and upside risks remain. Speculation regarding the central bank’s next move will likely remain the major driver of GBPUSD directionality, especially after King said earlier this week that the BOE “may need to take further action” on inflation as expectations have “drifted up.” Looking ahead to next week, event risk will be contained to the release of the Bank of England meeting minutes on Wednesday. The danger in the release of the minutes lies in how the central bankers voted in the most recent meeting, as just a few votes for a rate hike in June could lead to speculation of policy action in July.

Australian Dollar Breaks 0.8400 On Commodity Price Gains
Despite a sparse economic calendar, the combination of a pick up in commodity prices and soft US inflation data helped spur a strong Australian dollar rally to break 0.8400 and propel more mild gains for the New Zealand dollar above 0.7500. The Canadian dollar, on the other hand, was not as fortunate. Even as oil prices edged back above $68/bbl on concerns that refineries would not be able to meet demand, the currency gradually gave up its gains to push USDCAD back up towards 1.0680 as Canadian bond yields followed US Treasury yields lower. Loonie’s rally could reignite next week, though, with both CPI and retail sales scheduled to be released. If the data signals that inflation remains hot and consumption is keeping pace, USDCAD could go for another test of 1.0600 as traders ante up in anticipation of a July 10th hike by the Bank of Canada.

Kathy Lien is the Chief Currency Strategist at FXCM.