Dollar Strengthens Ahead of FOMC as Weaker Growth Takes Backseat to Stronger Inflatio

The US dollar has strengthened ahead of the FOMC meeting despite the larger than expected drop in durable goods orders in the month of May. The US economy is clearly facing problems as the weakness in durable goods follow disappointments in both existing and new home sales. However, the problems in the economy will take a back seat to inflation risks at tomorrow?s FOMC announcement.

Consumer and producer prices were both up in the month of May and based upon the recent increase in corn and dairy prices as well as the mild change in the US stock market, the Federal Reserve is not likely to loosen their leash on inflation. Oil prices also jumped over 1 percent today after reports of lower US fuel supplies. Crude prices are now $1 shy of its 9 month high. At this point, the Federal Reserve does not have much choice other than to keep the tone of the statement unchanged in order to tame the stock market bubble. The key phrases to watch are the ones in reference to the housing market and inflation. A bigger focus on housing market problems will most likely lead to more pronounced dollar weakness against the Euro than the Japanese Yen because the market anticipates another interest rate hike from the European Central Bank this year while shorting USD/JPY would require paying a hefty interest. By the same token, if the tone of the statement remains unchanged, expect USD/JPY to benefit more than the Euro. For a more detailed outlook on what the Federal Reserve meeting could mean for the US dollar, see our special FOMC Report.