FX alert:The inflation dragon stirs beneath the surface

Let’s dispense with the myth that inflation can be defeated. In a modern fiat regime, inflation isn’t a villain that gets vanquished—it’s a recurring house guest, one that leaves only to circle the block and sneak back in through another window. Too much money is still sloshing through the pipes. Too much fiscal leakage. Too many promises are baked into the balance sheet—entitlements, subsidies, industrial policy, and debt service. Central banks can mop around the edges, but they’re janitors, not architects.

June’s CPI data, coming three months after the latest tariff escalation, did just enough to remind markets that price pressure isn’t done with us yet. It didn’t scream—but it didn’t need to. It whispered just enough to keep the Fed cautious. The message was clear: no cut without clearance. And clearance requires more than a clean headline—it needs a shift in the underlying trend. That’s still absent.

Services inflation continues to drive the core. Food’s creeping back in, quietly this time—not a panic like 2022, but a rustle in the underbrush. Energy’s the only real drag, but even there, the downtrend looks fragile—especially if geopolitics flares

So where does that leave us? In a macro regime where the Fed is forced to wait—and waiting is bullish the dollar. Rate cut odds are drifting again, with the December meeting looking like the first realistic window. Tariffs are a slow-burning kindling for price pressure, and Washington’s still tossing logs on that fire.

The euro, for its part, has rallied well this year—15% higher, but now stalling as the U.S. macro beats keep drumming. A retracement toward the 1.1400 region feels clean, with weak European activity data supporting a case for a September ECB cut (even if the market is only 40% priced for it). That opens the door for a tactical dollar rebound—but we’d expect dip buyers to lie in wait from 1.1600 down to 1.1400, especially if the market starts to smell that the Fed shifts tone into Q4, or if a more dove-friendly chair enters the 2026 picture. Then there’s the yen—still limping, still lost.

JPY was once a sanctuary asset, but in today’s JGB vigilante landscape, that script’s been flipped. Domestic politics aren’t helping either. Japan’s Upper House election on July 20 is constraining Ishiba from budging on sensitive trade concessions. That’s left the U.S.–Japan trade track frozen, and bond markets jittery. Looser fiscal policy post-election looks increasingly likely, which is feeding JGB selling pressure. The yen is feeling both the internal heat and external indifference.

However, if USD/JPY approaches the politically sensitive 150 level again, expect the prominent asset managers and Japanese exporters to step in and hedge their FX exposure, and anticipate a few discreet phone calls from Washington. That’s a ceiling for now—unless the whole JGB market structure starts to buckle or the tariff wars escalate beyond containment.

The market still seems too eager to price in a Fed pivot that keeps drifting further into the horizon. With inflation proving sticky and likely to nudge higher, I see more room for hawkish repricing in the weeks ahead, giving the dollar an open runway to stay aloft and possibly climb higher.