US inflation rose to 4.2% in May, with energy posting the sharpest increase over the past 12 months. Higher gasoline and fuel costs added pressure on household budgets and pushed markets to reassess the odds of any near-term rate cut from the Federal Reserve. After the data release, the US dollar fell 0.2% against a basket of six major currencies to 99.75, though it remained close to the two-month high of 100.214 reached earlier in the week.
Short-term rate markets showed a modest pullback in expectations for a September hike, but the chance of a move by October remained meaningful. The report said investors are increasingly concerned that inflation may stay sticky for longer than previously expected. Bitcoin showed little reaction and held just above $62,069.
Energy costs and Middle East tensions keep pressure on markets
Energy was the clearest driver in the latest inflation reading. At the same time, geopolitical developments added another layer of market stress. US President Donald Trump accused Iran of taking too long to reach an agreement and warned that Tehran would face consequences. Iranian officials said they were reassessing diplomatic contacts after a night of retaliatory attacks. According to the report, those events lifted anxiety across global markets, especially through their effect on energy prices.
Dominic Bunning, Head of G10 FX Strategy at Nomura, said markets still lean toward some form of deal or compromise despite the volatility. In currency trading, the Japanese yen was flat at 160.34 per dollar, a level many investors view as a line where official intervention could become a concern. Analysts expect the Bank of Japan to raise rates at its June 16 meeting, although one move on its own may not give the yen durable support.
The Canadian dollar added 0.2% after the Bank of Canada left rates unchanged. Governor Tiff Macklem said the central bank would not hesitate to raise rates if needed. Sterling also rose 0.3%. Moves across major currencies showed that traders are adjusting expectations for policy paths across several economies at once.
Fed’s June 16–17 meeting comes under sharper focus
The inflation release came just before the Federal Reserve’s June 16–17 meeting. It will be the first meeting chaired by Kevin Warsh, who replaced Jerome Powell earlier this year. The Fed has kept its policy rate unchanged in the 3.50% to 3.75% range for three straight meetings.
Futures markets are now pricing in less than a 10% chance of a rate cut through 2026. At the same time, expectations for a possible return to rate hikes have reappeared for the first time since 2023. Warsh, a Fed Board member from 2006 to 2011, is known for taking a hard line on inflation and for his skepticism toward monetary expansion.
Seth Carpenter, chief economist at Morgan Stanley, said a change in leadership may not produce a dramatic shift in policy because rate decisions are made by the full board rather than one person alone. J.P. Morgan expects the Fed to stay on hold through 2026 if inflation remains elevated, with a possible 25-basis-point hike only emerging in the third quarter of 2027.