Oil surge past $100 drives dollar to 40-year high vs yen
Escalating Middle East hostilities that pushed Brent crude above $100 a barrel are reshaping global rate expectations, driving the dollar to a 40-year high against the yen and pressuring the ECB toward a September hike.
The dollar surged to its strongest level against the Japanese yen since 1986 and notched its largest daily gain in a month against a basket of currencies. The dollar index rose 0.36% to 101.47, while the euro fell 0.33% to $1.1372. The moves were driven by a sharp rally in oil prices as the Middle East conflict expanded to a second major shipping chokepoint.
Brent crude jumped 7.59% to $101.21 a barrel, crossing the $100 threshold for the first time since May 26, while U.S. crude gained 6.81% to $92.75. The spike followed attacks by Yemeni fighters on two Saudi oil tankers in the Red Sea. U.S. President Donald Trump responded by promising "major military punishment" for Iran and its Houthi allies, reigniting fears of supply disruptions and sustained inflation.
Those inflation fears are rapidly altering the outlook for U.S. monetary policy. Weekly initial jobless claims dropped by 22,000 to a seasonally adjusted 187,000, the largest decline in three months and well below the 212,000 forecast. Combined with recent comments from Federal Reserve Chair Kevin Warsh emphasizing inflation over labor market concerns, markets are now pricing an 81.4% probability of a rate hike at the September meeting, up sharply from 52.4% a week ago.
ECB signals readiness to act
The European Central Bank held rates steady on Thursday but signaled readiness to act if energy shocks persist. President Christine Lagarde noted that "while developments in underlying inflation have remained contained, the full effects of the energy shock have yet to play out." Traders are pricing in a 71% chance of an ECB hike in September, a move Morgan Stanley analysts argued would be positive for the euro without severely restricting growth.
The divergence in central bank timelines continued to punish the Japanese currency, which weakened 0.41% to 163.79 per dollar after touching 163.98. The Bank of Japan is expected to deliver only about 25 basis points in hikes this year, a stark contrast to the Fed and ECB. However, Japan's 2-year government bond yield hit a 31-year high on growing bets that the BOJ might accelerate its pace.
Akira Otani, senior Japan research economic adviser at Goldman Sachs, expects the BOJ to "maintain the status quo at the July meeting, and continue to expect the next rate hike in January next year." Otani cautioned that the timing is "likely to be significantly influenced by market developments and the degree of progress in communication with the government." With the yen weakening beyond the 160 level, Japan's finance minister reiterated readiness to intervene in foreign exchange markets, following similar actions in April and May.
Joseph Trevisani, senior analyst at FXStreet, noted the market is wrestling with whether current pricing reflects higher oil costs or the risk of actual supply disruption. "Anytime there's an active shooting war, things are not very predictable," Trevisani said.
