The United States dollar extended its recovery last week, marking a fourth consecutive weekly gain after rebounding from April’s multi-year lows.
However, it faces fresh headwinds as Moody’s Ratings stripped the United States of its top-tier ‘Aaa’ credit rating, citing unsustainable fiscal deficits and rising debt-servicing costs.
Moody’s now assigns the U.S. an ‘Aa1’ rating, noting that large structural deficits and increasing entitlement spending will likely widen the federal shortfall to nearly 9% of GDP by 2035.
The downgrade, which follows similar moves by S&P and Fitch, casts doubt on the dollar’s haven appeal, particularly in times of economic uncertainty.
Compounding these concerns, the University of Michigan’s preliminary Consumer Sentiment Index fell to 50.8 in May, one of its lowest readings on record, while one-year inflation expectations spiked to 7.3%, up sharply from April’s 6.5%.
Euro Starts Higher as ECB Signals Policy Pause
The euro started the week slightly higher following four weeks of consecutive declines, with the EUR/USD slipping to five-week lows.
Despite the bearish tone, comments from several European Central Bank (ECB) officials hinted at a pause in the rate-cutting cycle as inflation edges closer to the 2% target.
Markets now assign a 51.2% chance the ECB will hold its deposit rate at 2.25% in June, according to the ECB Watch Tool.
Meanwhile, ECB Vice President Luis de Guindos and President Christine Lagarde have positioned the euro as a potential long-term alternative to the U.S. dollar.
Guindos said: “I don’t think that we are in a position to be an alternative as a reserve currency, but I think we’re at the best position to become one in some years.”
However, despite recent geopolitical instability, the euro remains a distant second in global reserve usage - accounting for just 20% versus the dollar’s 57%.
Australian Dollar Neutral; RBA Cut Expected
The Australian dollar ended the week around 0.6400 against the U.S. dollar, trading sideways as traders await the Reserve Bank of Australia’s (RBA) next policy move.
According to the ASX's RBA Rate Tracker, as of the 16th of May, futures pricing was indicating a 96% expectation of an interest rate decrease to 3.85% at the next RBA Board meeting.
Soft risk sentiment and uncertainty surrounding global trade, amplified by U.S. President Donald Trump’s tariff threats, have weighed on the Aussie in recent weeks.
Meanwhile, subdued local data and concerns over household spending have raised doubts about Australia's recovery sustainability.
Pound Finds Modest Support for Stronger GDP
Sterling found limited support from upbeat UK GDP figures, as the economy grew by 1.3% in Q1, topping forecasts.
However, weak industrial production and manufacturing data offset optimism.
With inflation still high, markets largely expect the Bank of England to hold rates in June, but a potential cut in August remains priced in.
GBP/USD held around 1.26 but struggled to gain further ground amid diverging global central bank trajectories.
Yen Loses Traditional Drivers Amid Fiscal Worries
The Japanese yen continued to defy traditional drivers like rate differentials and risk sentiment, reflecting broader market doubts about the dollar’s stability.
With Moody’s U.S. downgrade adding pressure, the pair traded more as a proxy for confidence in the U.S. fiscal outlook than as a standard safe haven gauge.
Japan’s April inflation data, due this week, is now in focus as momentum signals suggest further downside risk for USD/JPY.
Economic Calendar – Week Ahead:
On Monday, China will release a broad set of economic indicators, including retail sales, industrial production, unemployment figures, house price data, and fixed asset investment.
In the United States, several Federal Reserve officials - Bostic, Jefferson, Williams, Logan, and Kashkari - are scheduled to deliver speeches that may offer insight into the central bank’s current policy stance.
Tuesday brings the Reserve Bank of Australia’s interest rate decision, alongside the publication of its Statement on Monetary Policy. China is expected to announce its prime loan rates, while Canada will report its latest Consumer Price Index figures.
Additional remarks from Federal Reserve officials, including Barkin, Collins, Musalem, and Kugler, are also scheduled throughout the day.
On Wednesday, Japan will publish its trade balance data, and the UK will release its latest Consumer Price Index, which could influence expectations around future Bank of England rate decisions.
Thursday will feature the release of S&P Global Purchasing Managers’ Index (PMI) data for Australia, Japan, the Eurozone, the United Kingdom, and the United States.
Japan is also set to announce machinery orders, while the US will publish figures on existing homes sales.
Finally, on Friday, markets will receive April inflation data from Japan, along with retail sales figures from both the UK and Canada.
The U.S. will conclude the week with the release of new home sales data.
