Dollar hits 18-month high, then cools as investors await patient Fed

By Laura Matthews

NEW YORK Oct 14 (Reuters) - The US dollar hit an 18-month high on Wednesday after stronger-than-expected US inflation data briefly revived expectations for a Federal Reserve interest rate hike later this month, though the currency later pulled back as investors returned to expecting the Fed to be patient.

The Labor Department's Bureau of Labor Statistics said on Wednesday that US consumer prices rose sharply in September as gasoline costs surged. 

"CPI is still making its way through valuations, and with stocks down we get another reason to bid up the USD a bit," said Marvin Loh, senior global market strategist at State Street in Boston. 

The US dollar index, a measure of the greenback's strength against a basket of six currencies, was trading at 102.53 late on Wednesday afternoon, up 0.34%, after earlier trading as high as 102.94 late in the morning New York time.

The report overshadowed recent dovish signals from Fed officials, including comments from New York Fed President John Williams that weakened the dollar in the previous session.

On Thursday, Fed Vice Chair for Supervision Michelle Bowman also signaled a wait-and-see approach before raising rates again.

Meanwhile, the Fed's Beige Book showed on Wednesday that the US labor market remained in a low-hire, low-fire pattern, while inflation pressures picked up in parts of the country.

"The Fed's dual mandate remains in tension with signs of labor market weakness," said Uto Shinohara, senior investment strategist at ⁠Mesirow Currency Management. "Tomorrow's releases should provide greater visibility into consumer conditions, the labor market, and price pressures through retail sales, initial jobless claims, and (producer price index)."

Traders now see a 65% chance that the Fed will leave rates unchanged at its October 27-28 meeting, compared with 53% a month ago, while pricing in about 79 basis points of tightening by late 2027, CME Group's FedWatch Tool showed. 

The US central bank raised its policy rate by a quarter of a percentage point to the 3.75%-4.00% range last month.

Michael Rosen, chief investment officer at Angeles Investments, said investors are losing confidence in the US's willingness to confront inflation.

"We see ... a rising dollar being supported by higher interest rates," Rosen said. "Inflation won't fall unless the Fed engineers a recession by hiking rates significantly, or our policies on trade and immigration are corrected." 

EURO TROUBLES

A host of global finance chiefs are in Bangkok, where the International Monetary Fund and World Bank are holding annual meetings. 

IMF fiscal affairs chief Rodrigo Valdes said the body has "dialed up" the urgency of its call for governments to rein in growing debts, while the IMF's Kristalina Georgieva said the US needs to make fiscal adjustments to put its debt on a more sustainable path.

French bonds have been among the worst hit by a recent global selloff, with investors concerned that political jostling ahead of next year's presidential election may hinder efforts to reduce France's high deficit.

The ECB's President Christine Lagarde said at a CNN event in Bangkok that France should solve its debt woes through fiscal consolidation, damping speculation about whether the central bank might start buying French bonds to contain yields.

The euro fell 0.41% to $1.1152, hitting a new 17-month low against the dollar and a fresh 16-month low versus sterling as a rise in oil prices and lingering concerns about France's fiscal health continued to weigh on the single currency.

Roberto Mialich, FX strategist at UniCredit, said the euro could test $1.10 in the near term but was less bearish on the currency into year-end, expecting that "bond yield in the US will probably ease, although the situation in the euro zone could weigh on the euro."

The Financial Times reported on Wednesday that British finance minister John Healey is expected to pay for all new giveaways in this month’s budget with higher taxes or spending cuts, rather than more borrowing. 

The IMF is not recommending that Britain speed up its fiscal consolidation, a senior official of the body said.

Sterling fell 0.59% to $1.3177. Against the Japanese yen the dollar weakened 0.08% to 158.16.

(Reporting by Laura Matthews in New York; Additional reporting by Rocky Swift and Sruthi Shankar; Editing by Jan Harvey, Colin Barr and Aurora Ellis)