The dismal state of the dollar was apparently overshadowed by rising commodity prices at the G8 meeting over the weekend. The state of the greenback wasn't even mentioned in the G8's final communique.

While the dollar has firmed in recent weeks, it had only recovered slightly more than 5% off of the recent all-time low based on the dollar index. This hardly warrants consideration as a true reversal of fortune for the dollar, so its interesting that the G8 chose not to bolster the greenback with at least a cursory acknowledgment of the role a weak dollar plays in inflation.

Perhaps the G8 is wise to the fact that support of the dollar is contingent on a shift in US monetary policy; a shift that is likely to take place later rather than sooner. Still, given all of the calls recently for a more stable dollar, no mention at all by the G8 seems a very odd decision.

The US Empire State index tumbled to -8.68 in June, well below market expectations. This has prompted a modest rebound in Fed funds futures, taking a little of the premium for a rate hike out of the market. This put the dollar under additional pressure and prompted a nice pop in the gold market.

Signs that the US economy remains in trouble are going to make the Fed increasingly less likely to raise interest rates in the near-term. The Fed has traditionally placed greater emphasis on maintaining sustainable economic growth and employment.

The recent dollar rally has been based primarily on expectations that the Fed was on the verge of initiating a tightening cycle as a means to address growing price risks. Weakening of those expectations favors a corresponding retracement in the dollar.

At the same time one might argue that a near-term US rate hike has become less likely, the upward revision in Eurozone inflation makes an ECB rate hike more likely.

Eurozone HICP inflation for May was revised to 3.7% y/y, from 3.6% y/y previously. The ECB has a single mandate of price stability and the latest inflation measure lends additional confidence to the scenario that calls for a 25bp rate hike by the ECB in July.

The resulting rebound in the EUR-USD serves to reinforce the 1.5289 support level (08-May low), suggesting the downside for the euro (upside for the dollar) is well protected at this point. Look for a rebound to test chart/Fibonacci resistance at 1.5563/64.

More than 38.2% of the recent leg higher in the dollar index has already been retraced and scope is seen for a drop back to the 73.09/00 level. A retreat below 73.00 would shift focus to 72.50 and then back to 72.00.

Such a move in the dollar would probably equate to a retest of 934.65/935.30 in gold.

Oil has pushed to a new record high near $140 bbl on renewed dollar weakness and news that 150,000 bbl/day in North Sea production was shut down as a result of a platform fire.

These factors offset a proposed plan that would see Saudi Arabia raise its production by another 200,000 bbl/day. This would result in Saudi production rising to about 9.7M bbl/day, the highest level in more than 25-years.

With oil still trending higher, and continuing to have a significant impact on global inflation, look for gold to be supported as well.

Gold Market Movers:

US TIC data for Apr shows net inflows of $60.6 bln.

US Empire State index for Jun tumbles to -8.68, well below market expectations, versus -3.2 in May.

Eurozone HICP inflation for May revised higher to 3.7% y/y, versus 3.6% y/y previously.

G8 communique neglects to mention currencies

Lehman posts first loss as public company

Bank of England warns that credit crisis far from over as banks hoard cash

Oil at record near $140 a barrel