Dollar eases, but inflation outlook stays high on investors' radar

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By Amanda Cooper

LONDON (Reuters) -The dollar eased on Monday but its losses were contained by data last week that showed U.S. wholesale inflation rose more than expected last month, reinforcing the view that the Federal Reserve may have to keep interest rates higher for longer.

The U.S. currency made the most upward headway against commodity-linked currencies like the Australian and New Zealand dollars, but briefly rose as much as 0.5% against the pound after data showed the UK economy recovered in October from a public holiday for Queen Elizabeth's funeral, but still pointed to a bleak outlook.

Sterling was last up 0.2% at $1.2287, having dipped to a session low of $1.2207, and was down 0.1% against the euro at 86.03 pence.

This week is one of the most macro-packed so far this year, with four major central banks holding their final policy meetings of the year, plus consumer inflation data from the United States that could be instrumental in determining the outlook for U.S. interest rates and the dollar.

The U.S. Federal Reserve, the European Central Bank, the Bank of England and the Swiss National Bank will all release rate decisions.

"With any luck, one would hope that by end of the week, markets can probably revise down a bit their expectations as to where Bank of England and ECB rates will peak and be confident that the Fed is going to go 5% - or north of that," Berenberg economist Kallum Pickering said.

"That’s really is going to be an interesting development across all asset classes, because so far, what we have had has been a 'follow the Fed' rule book and what do we see in currency markets, what do we see in equities? We believe the Fed will keep going, the ECB stops early and the Bank of England maybe stops hiking after this week," he said.

The euro pared overnight losses and rose 0.4% to $1.0567. The single European currency has gained almost 8% so far in the fourth quarter, as investors have previously banked on the ECB sticking to a course of aggressive rate hikes.

Those expectations have been tempered somewhat and money markets show the ECB will most likely raise rates by just half a percentage point this week.

The Fed is widely expected to deliver a rate hike of the same size after a series of 75-basis point increases, especially given the tightness in the labour market and a reasonably resilient economy.

Friday's data that showed U.S. producer prices rose 7.4% year-on-year in November, compared with forecasts for a rise of 7.2%, has reminded investors of how sticky inflation is proving.

"There were a little bit of concerns about how inflation would be persistently high and would encourage the Fed to keep policy at a restrictive level for even longer than previously expected," said Carol Kong, a currency strategist at Commonwealth Bank of Australia (OTC:CMWAY) (CBA).

Consumer inflation data for November lands on Tuesday and is expected to show a 6.1% increase in the core reading, which excludes food and energy prices, down from 6.3% in October.

"Given the very close proximity to the FOMC (consumer inflation data) clearly has the ability to change the tone of the message, the statement and the dot plots, but is highly unlikely to change the headline 50bps hike," Deutsche Bank (ETR:DBKGn) strategist Jim Reid said.

Against the yen the dollar rose 0.2% to 136.78. The Australian dollar was last down 0.4% at $0.6772, while the fell 0.2% to $0.6406.

The offshore yuan was mostly flat at 6.977 per dollar, further pressured by worries over a potential spike in COVID cases as China eases its stringent COVID-19 restrictions.