US dollar index (DXY) forecast ahead of CPI data, FOMC decision

The US dollar index (DXY) price reacted mildly to the latest US non-farm payrolls (NFP) and inflation expectations data. The index, which is the most popular measure of the dollar strength, was trading at $103.88, lower than the year-to-date high of $107.35.

The US dollar index had two important catalysts on Friday. The most important report was the latest NFP data. According to the Bureau of Labor Statistics, the economy added 199k jobs in November, a big increase from the 150k it created in the previous month. 

Further, the unemployment rate slipped from 3.9% to 3.7%, which is a sign that the economy was doing well. Additional data revealed that the participation rate rose slightly to 199k while wage growth continued rising.

The average hourly earnings rose by 0.4% on a MoM basis from the previous 0.2%. This growth translated to a YoY growth of 4.0%. These numbers mean that the American labor market is strong and that the Fed has managed to engineer a soft landing.

The US dollar index also reacted to the latest inflation expectation report by the University of Michigan. The report revealed that the 1-year inflation expectation dropped from 4.5% in November to 3.1% in December. Also, the five-year expectation fell to 2.8%.

The next important DXY index catalyst will come out on Tuesday when the BLS will release the latest US inflation data. Economists polled by Reuters expect the data to show that the headline inflation fell to 3.1% in November while core CPI remained at 4.0%. My crystal ball believes that inflation fell to 3.0% or 2.9% in November.

The other crucial news will be the latest Federal Reserve (FOMC) decision scheduled for Wednesday. Economists see the bank leaving rates unchanged between 5.25% and 5.50%. The bank will also push back against rate cut expectations among investors.

DXY chart by TradingView

The DXY index has been in a downtrend in the past few days. In this period, it has slipped below the key support at $104.70, the highest swing on May 31st. At the same time, the 50-day and 100-day Exponential Moving Averages (EMA) have formed a bearish crossover.

The index also seems to be forming a bearish flag pattern. In price action analysis, this pattern is usually a bearish sign. Therefore, the outlook for the greenback is bearish, with the next target being at $102.47.

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