Dollar Drifts as Markets Stay Calm Ahead of Fed.

• Dollar softens as markets position for a Fed cut and global risk sentiment improves.

• Carry trade gains continue, with the Turkish lira boosted by political relief.

• USD/JPY dips on Japanese political dynamics, though risks point higher towards 145.

• Euro holds firm despite French budget uncertainty, aided by stronger peripheral stories.

• UK jobs data steady, keeping the BoE’s hawkish bias intact ahead of inflation figures.

USD: Calm global backdrop keeps the dollar under pressure
The dollar opened the week on the softer side, partly due to positioning ahead of tomorrow night’s Fed rate cut, but also thanks to a supportive global backdrop. Equity markets remain buoyant, underpinned by resilient business sentiment and the prospect of easier borrowing costs. Optimism is also helped by progress in US-China relations, with Trump and Xi expected to speak on Friday to settle TikTok’s future in the US. Chinese assets remain well supported, with USD/CNH edging back towards year-to-date lows.

Carry trade strategies continue to benefit, especially in the Turkish lira, where investors were given an added boost yesterday after a key political court case was delayed until late October. High yields normally help offset lira depreciation, but yesterday investors also enjoyed outright appreciation.

Meanwhile, USD/JPY has lost some momentum, potentially influenced by Shinjiro Koizumi’s entry into the LDP leadership race, offering a more moderate alternative to the yen-bearish Sanae Takaichi. While we still expect USD/JPY to climb towards 145 in the coming weeks, the path is likely to be volatile.

In the US, Lisa Cook’s right to vote at tomorrow’s FOMC meeting was restored, but this has had little market impact with a 25bp cut already fully priced. Today’s focus will be on August retail sales and import prices, the latter seen as key in assessing whether tariffs are being absorbed abroad or passed on to US consumers. We expect the costs to be passed through. DXY is sliding towards 97.10 in quiet trade.

EUR: Brushing off French political noise
French political uncertainty over the budget remains a cloud, but this is being countered by recent sovereign rating upgrades for Spain and Portugal, alongside a risk-positive global mood. EUR/USD is pushing towards the 1.1800/1.1830 resistance zone, with tomorrow’s Fed decision the most likely catalyst for a breakout.

Today brings the ZEW investor sentiment surveys, which may edge higher thanks to strong equity markets, but aren’t likely to shift the euro materially. Relative rate spreads remain supportive, with markets concluding the ECB is done cutting around 2.00%, while the Fed still has significant easing to deliver.

GBP: Jobs report leaves BoE bias intact
UK labour market data for August showed only a modest drop in payrolls (-8k) and steady wage growth at 4.7/4.8% YoY. Unlike the US, where jobs momentum has weakened sharply, the UK’s slowdown looks contained.

As our economist James Smith notes, this won’t alter the BoE’s stance. The Bank gave little weight to softer labour signals in August, so today’s data was never expected to be a game-changer. Inflation figures are due tomorrow, where services inflation may ease but perhaps not as much as consensus expects. While we still lean towards a November rate cut, an upside inflation surprise could challenge that call.

Sterling is modestly firmer, helped by expectations that the BoE can remain hawkish for longer. Unless CPI delivers a major downside surprise, Thursday’s BoE meeting could be supportive for the pound. Our year-end GBP/USD target of 1.38 may be reached sooner than expected.