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Thursday’s announcement that consumer prices in the U.S. fell -0.7 in January, the biggest drop since late 2008 is going to make the Feds job harder. The core CPI, excluding food and energy, rose 0.2%. In testimony earlier this week, Janet Yellen shifted her emphasis away from the need for higher wages to the need for higher price inflation. Although the Fed is looking for the right opportunity to start boosting short-term rates sometime this year, low inflation makes that a lot harder to do.

Declining commodity prices, especially oil, are a big part of the slide in inflation in the US and internationally. Thats why the direction of commodity prices is taking on more importance. Oil prices have dropped more than 50% in the last 8-months leading to a 27% decline in the CRB index. All other commodity groups fell as well, just not as much. Livestock prices fell -20%, agricultural prices and industrial metals lost 13%, and precious metals -10%.

The deflationary threat from the commodity price drop is one of the reasons that bond yields are falling all over the world. Bond yields in Eurozone countries have fallen to the lowest levels on record. Several euro countries have negative rates. The German 5-year yield turned negative this week for the first time in history. Low foreign yields are acting as a weight on U.S. Treasury yields. Foreign countries are weakening their currencies in an attempt to boost growth and inflation. That policy, however, strengthens the U.S. dollar. Since commodities are priced in dollars, the stronger greenback keeps downward pressure on commodity prices.

One of the most consistent intermarket relationships is the strong tendency for the U.S. dollar to trend in the opposite direction of commodity prices. Thats because commodities are quoted in dollars. The US Dollar led by the EUR/USD declining and the USD/JPY increased on average by 17% while the CRB lost -27%. The reason for the bigger drop in the CRB Index was oil. The average loss in other commodities closely matches the gain in the dollar. The 60-day correlation coefficient between the two markets since July is -.89, which means that the dollar and a basket of commodities moves in opposite direction nearly 90% of the time. All of which makes the direction of the dollar a crucial factor in determining the direction of commodity prices.