Dollar Rally Pauses as Middle East War Risks Ease

The dollar steadied near a three-month high while the euro recovered slightly as investors weighed uncertain developments in the US-Iran conflict and its impact on inflation and interest rate expectations.

The U.S. dollar paused its sharp rally on Thursday as investors reassessed geopolitical risks tied to the ongoing Middle East conflict, providing temporary relief to the euro and other major currencies battered earlier this week.

The dollar index, which measures the greenback against a basket of major currencies, eased slightly to 98.82 after touching a more than three-month high earlier in the week. The euro held steady at $1.1628 after sliding to its lowest level in over three months on Tuesday, while sterling traded little changed at $1.3368.Pakistani Rupee Continues Gain

Currency markets showed cautious optimism following reports suggesting that Iranian intelligence operatives had signaled openness to negotiations with the United States to end the conflict. Tehran later denied the report, highlighting the fragile sentiment gripping global markets as investors attempt to gauge the potential duration and economic impact of the war.

Traders also took some comfort from indications that maritime trade through the Strait of Hormuz could gradually resume. Insurance broker Marsh said on Wednesday it held discussions with U.S. officials to explore restoring shipping through the strategic waterway, which handles roughly one-fifth of global petroleum flows, according to the U.S. Energy Information Administration.

The temporary easing in geopolitical tension helped slow the dollar’s momentum after a surge driven by safe-haven demand. The greenback remains one of the few major assets posting gains this week amid heightened volatility that has affected equities, bonds and even traditional safe havens such as gold.

Carol Kong, currency strategist at Commonwealth Bank of Australia, said markets appear to be taking a relatively calm view despite persistent uncertainty surrounding the conflict.

She noted that the initial report about potential negotiations offered some relief, even though Iran later rejected the claim. Investors remain cautious because it remains unclear how long the war could last or how severely energy markets may be disrupted.

Sentiment toward the dollar was also supported by stronger-than-expected U.S. economic data released on Wednesday. The Institute for Supply Management reported that U.S. services sector activity expanded sharply in February, reaching its highest level in more than three and a half years.

Robust economic indicators have reinforced expectations that the U.S. economy remains resilient despite global uncertainties. According to the U.S. Commerce Department, the services sector accounts for roughly two-thirds of U.S. economic output, making its performance a critical gauge for policymakers and investors.

Still, the dollar has already gained more than 1% this week as traders positioned for the economic consequences of rising energy prices triggered by the Middle East conflict.

Higher oil prices have intensified concerns about a resurgence in global inflation, potentially complicating monetary policy decisions for major central banks. Analysts say prolonged energy price increases could delay anticipated interest rate cuts in several advanced economies.

Bas van Geffen, senior macro strategist at Rabobank, said markets have largely interpreted the Middle East conflict as an inflationary risk for global economies.

In the United States and Britain, this has prompted traders to reduce expectations for interest rate cuts by the Federal Reserve and the Bank of England. Meanwhile, euro zone money markets are now pricing roughly a 40% probability that the European Central Bank could be forced to raise rates before the end of the year if inflation pressures intensify.

The Japanese yen also benefited modestly from the dollar’s pause, strengthening 0.2% to 156.79 per dollar. Japan’s currency had previously weakened sharply as investors sought higher yields in dollar-denominated assets.

Commodity-linked currencies showed mixed performance. The Australian dollar held onto a 0.57% gain from the previous session to trade at $0.7068, while the New Zealand dollar slipped slightly to $0.5939.

The Australian dollar has swung widely during the week as traders used it as a proxy for global risk sentiment. At times, the currency also attracted safe-haven flows because Australia is a major exporter of energy and commodities, which can benefit from higher global prices.

Meanwhile, attention also turned to developments in China after Beijing set its economic growth target for 2026 at between 4.5% and 5%. The target represents a slight slowdown from last year’s roughly 5% growth but signals authorities’ intention to stabilise the economy while addressing industrial overcapacity.

China’s currency showed modest strength after the People’s Bank of China set the yuan’s official midpoint at its strongest level in 34 months. The onshore yuan rose more than 0.1% to trade at 6.8862 per dollar, a move traders interpreted as an effort by authorities to maintain currency stability.

In digital asset markets, cryptocurrencies retreated slightly after a strong overnight rally. Bitcoin and ether both fell close to 1% as risk appetite moderated across global financial markets.

Currency traders remain focused on geopolitical developments and energy price movements, which continue to shape inflation expectations and central bank policy outlooks. Analysts say the trajectory of the U.S.–Iran conflict and the resumption of oil shipments through the Strait of Hormuz will likely remain key drivers of currency markets in the coming weeks.