The US Dollar Index returns to 100, where will the FOMC push the market?

Morning FX

Last week, amid heightened tensions between the US and Iran, the Dollar Index returned to triple digits, testing the 100.4 level once again, which has been a resistance point four times since June 2025.

Amid the fog of geopolitical conflicts, many institutions have shifted their previous bearish outlook on the Dollar Index: JP and Goldman Sachs had maintained a firm bearish stance on the dollar for almost a whole year, but last week for the first time explicitly expressed a short-term bullish view (though they still believe the index will decline in the medium term once the US-Iran tensions ease); Deutsche Bank and Bank of America have at least moved to a more neutral stance after a brief bearishness, and other foreign banks are also maintaining some cautiousness regarding the short-term upside risks for the dollar.

With the Dollar Index at a critical juncture, which direction will this week's FOMC drive the market? In my view: Firstly, the policy rate will likely remain unchanged this time, with probably no more than three dissenting votes among FOMC voting members. The most likely dovish dissent is Milan, followed by Waller and Bowman. However, the main debate in the meeting minutes and press conference will likely be whether there is "more concern about employment" or "more focus on inflation":

• Base case (70%): There is a greater emphasis on employment concerns but also close attention to the effects of rising energy prices and inflation. On economic projections, I personally believe there is a probability of unemployment rate forecasts being revised upward, while the likelihood of an upward inflation revision is lower (unless the US-Iran conflict causes oil prices to remain elevated for several months, in which case June’s projections may see a higher inflation revision probability). On the dot plot, the dual pressure of stagflation could further widen dissent among FOMC members regarding rate cuts, but the median forecast may still remain unchanged, meaning a single 25bp rate cut per year.

• Dovish case (20%): Heavy concerns about employment, and the view that rising energy prices will not lead to a significant rebound in future inflation. Referring to FOMC members' statements after the US-Iran conflict escalated in the first week of March (such as Goolsbee and Williams), it cannot be ruled out that some members may now see greater risks in the labor market, and thus may lean toward supporting rate cuts.

• Hawkish case (10%): Little concern about employment, greater worry about energy price-driven inflation rebound, and signals a "pause on rate cuts." Given that the US employment data doesn’t look good at the moment and with the upcoming Federal Reserve leadership transition, Chairman Powell can just be patient and leave the stagflation problem for Walsh, without the need to take blame; hence, this extreme scenario has a relatively low probability.

In the base case, US interest rates and the Dollar Index may see a slight pullback, with the Dollar Index possibly continuing to fluctuate between 99-100 for a while, awaiting clearer developments in the US-Iran situation.