NEWS / Foreign Exchange

The dollar also weakened in the aftermath of the inflation data

Data released yesterday showed that U.S. consumer prices rose 0.6% last month, which was in line with market expectations. However, the core CPI was up only 0.1% during the month, which was less than most investors had expected. Yields on U.S. Treasury securities ticked down a few basis points on the view that the better-than-expected inflation data would make the Fed a bit more willing to cut rates. (In our view, however, it will take a few months of better-than-expected inflation data to convince most FOMC members that inflation is no longer the primary risk to the U.S. economy. Therefore, any Fed easing, should it in fact happen, still seems to be months away.)

The dollar also weakened in the aftermath of the inflation data, and it remains on the ropes this morning. Sterling rose to a 25-year high this morning after the minutes of the Bank of England's policy meeting earlier this month showed that two MPC members voted for a 25 basis point rate hike. A few other members were leaning in the direction of tighter policy as well, although they preferred to keep rates unchanged at the April meeting. Given the higher-than-expected U.K. inflation data that were released yesterday, a rate hike at the May policy meeting now seems like a sure bet. The euro has also strengthened this morning and is within spitting distance of its all-time high against the dollar. As we described in our special report yesterday, the narrowing in interest rate differentials over the past few months is one of the major fundamental reasons the greenback has trended lower against the British pound and the euro. (The report is entitled "The Amazing Shrinking Dollar" and it is posted at www.wachovia.com/economics.)

The docket is devoid of major U.S. data releases today, so market participants will have very little new information to guide trading. However, the recent trend of dollar exchange rates seems to indicate that further dollar weakness may be in store.