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The dollar dipped to a one-month low versus the euro on Wednesday amid lower Treasury yields as traders braced for a key U.S. inflation report later in the day that could dictate the path of Federal Reserve policy.
The yen edged up against the greenback but was still close to a two-week low as the yield gap between local bonds and U.S. peers continued to encourage selling of the Japanese currency.
The euro EUR= was up 0.1% to $1.0826, and earlier rose to $1.0835 for the first time since April 10.
The U.S. dollar index =USD - which measures the currency against six top rivals, but is heavily weighted towards the euro - eased 0.11% to 104.90, its lowest level in 1-1/2 weeks.
Analysts said the risks for the dollar were skewed to the downside after the market reaction to Tuesday's U.S. producer prices data, adding the core services CPI component will be key as it has been the segment producing upside surprises.
Wednesday's report on core consumer prices is expected to show CPI rose 0.3% month-on-month in April, down from 0.4% growth in March, according to a Reuters poll.
"While we'd expect it (the CPI data) to remain too elevated for the Federal Reserve to feel confident that the time has come to start cutting interest rates, it would mark a step in the right direction," said Julien Lafargue, chief market strategist at Barclays Private Bank, who expects the bumpy disinflation process to continue.
Higher-than-expected U.S. consumer prices in the first quarter of the year were the driving force for a sharp repricing of the pace of Fed rate cuts, with bets now pared back to about 44 basis points of reductions this year. FEDWATCH
Deutsche Bank strategist Alan Ruskin noted rate path expectations are "a little more sticky than usual" and would require more than a single modest upside or downside surprise to swing markets considerably.
However, in the event of "a large upside miss" of 0.5% or more, "early thoughts of the next move possibly being a hike would create a very large scale repricing of rates and a major USD surge against all currencies," he said.
Fed Chair Jerome Powell gave a bullish assessment on Tuesday of where the U.S. economy stands, with an outlook for continued above-trend growth and confidence in falling inflation that, while eroded by recent data, remains largely intact.
The dollar edged back 0.29% to 155.99 yen JPY=EBS on Wednesday, but had pushed as high as 156.80 overnight.
In contrast to U.S. counterparts, Japanese long-term yields JPY10YTN=JBTC stand at just 0.955%, after rising to more than 10-year peaks earlier this week as the Bank of Japan (BOJ) sent a hawkish signal to markets on Monday by announcing a cut in offer amounts for a segment of bonds at a bond-buying operation.
The dollar's surge to a 34-year peak of 160.245 yen on April 29 triggered two rounds of aggressive yen buying that traders and analysts suspect was the work of the BOJ and Japanese finance ministry (MoF).
BofA said in a research note the MoF is suspected to have intervened on April 29 at 159.4 yen per dollar and May 1 at 157.5.
"The BOJ will hope that tonight's U.S. CPI release is in line with expectations to avoid the need for a difficult conversation tomorrow about when the appropriate time is to commence a third round of intervention - mindful that the past two rounds have yet to turn around the yen's fortunes," Tony Sycamore, an analyst at IG, wrote in a client note.
Elsewhere, the yuan bounced back from a two-week low versus the dollar as a report of a possible plan to ease the country's housing glut boosted sentiment, outweighing U.S. President Joe Biden's decision to impose steep tariff increases on an array of Chinese goods.
The dollar dropped 0.22% to 7.2222 yuan in offshore trading CNH=D3 . Antipodean currencies also benefited from the China optimism, with the Australian dollar AUD=D3 gaining 0.28% to $0.6648 after earlier reaching $0.6651 for the first time since March 8.
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