Dollar's Weakening Roots: Fed Easing Outpaces Global Rate Retreat

Bank of America has signaled that the U.S. dollar will likely remain under pressure in the near term due to a combination of expected interest rate cuts by the Federal Reserve and persistently high inflation. According to the bank’s analysis, the dollar’s strength has been waning as market participants increasingly price in monetary easing. This view aligns with broader forecasts from other financial institutions, which anticipate a series of rate reductions from the Fed over the coming months.

The Federal Reserve has historically responded to weakening labor markets and moderating inflation by lowering interest rates. Bank of America notes that the Fed has already begun signaling a more dovish stance, which is likely to continue. As the central bank moves toward accommodative policy, the return on U.S. dollar assets will decrease, making the greenback less attractive to global investors. This shift has already begun to influence market behavior, with hedging flows playing a significant role in keeping the dollar weaker than would be expected from economic fundamentals alone.

ING, another key player in the foreign exchange market, has similarly noted that the Fed’s policy path is increasingly being priced into the U.S. dollar. The institution forecasts three rate cuts of 25 basis points each in September, October, and December of 2025, followed by a larger 50-basis-point reduction in 2026. These cuts are expected to bring the terminal fed funds rate down to 3.25%, a level that would significantly weaken the dollar relative to its recent strength.

The implications of these rate cuts are not limited to the U.S. dollar. The European Central Bank (ECB) is also expected to follow a path of monetary easing, although at a slower pace. This divergence in policy trajectories—where the ECB is seen as moving toward neutral policy faster than the Fed—has strengthened the euro against the dollar. ING analysts project that the EUR/USD pair could approach the 1.22–1.25 range by late 2026, supported by a combination of lower U.S. interest rates and stronger growth in the eurozone.

High inflation remains a significant factor in the equation. While headline inflation in the U.S. has come in below expectations, core inflation—excluding volatile food and energy prices—has shown some resilience. This has limited the extent to which the Fed can ease monetary policy, as policymakers remain cautious about overdoing it. However, Bank of America and other analysts believe that the inflationary pressures are not as severe as they were earlier in the year. In particular, the recent trade tariff measures have not had as large an impact on prices as initially feared, which has supported the case for rate cuts.

Looking ahead, the key risk to this scenario is a surprise reacceleration of inflation. If price pressures prove more persistent than expected, it could delay or even reverse the Fed’s rate-cutting path, which would support the dollar. However, political pressures within the U.S. are also expected to encourage the Fed to move more aggressively in cutting rates, even if it comes at the cost of some inflation persistence. This makes a dovish outcome more likely, further weighing on the dollar.

In the broader context, the dollar’s performance will also be influenced by global macroeconomic conditions. For instance, the Eurozone has shown signs of resilience despite slower growth, with continued demand for eurozone debt and equity assets. This has supported the euro’s strength. Meanwhile, emerging markets and other non-dollar currencies are also expected to benefit from the Fed’s easing cycle, as investors seek higher returns in a low-interest-rate environment.

Source: [1] EUR/USD: Our latest views (https://think.ing.com/articles/eur-usd-our-latest-views/) [2] EUR/USD Forecast: Drops as Range Holds (https://www.dailyforex.com/forex-technical-analysis/2025/08/eurusd-forecast-19-august-2025/232838) [3] Take Two: US inflation data drives markets higher (https://www.axa-im.com/investment-institute/market-views/market-updates/take-two-us-inflation-data-drives-markets-higher-eurozone-growth-slows) [4] Sterling nudges higher against dollar, inflation data in focus (https://www.reuters.com/world/uk/sterling-nudges-higher-against-dollar-inflation-data-focus-2025-08-19/)