The US dollar kicked off September with a sharp decline, pressured by traders scaling back bets on a Federal Reserve rate hike this month, while a surge in the Japanese yen created fresh turbulence across global currency markets. The Bloomberg Dollar Spot Index touched its lowest level since May on Thursday, putting the gauge on track for a weekly drop of roughly 0.7%. Investor sentiment shifted after Fed Governor Christopher Waller signaled improving inflation conditions, leading markets to price in roughly even odds of a rate increase at the central bank's September 16 meeting. Persistent worries over the US fiscal outlook added further downward pressure on the greenback.

In Japan, the yen is heading for its strongest weekly performance since July, having rallied 2.7% against the dollar. The move is largely driven by expectations that the Bank of Japan will raise its benchmark interest rate by 25 basis points this month, while also opening the door to a faster pace of tightening thereafter. "The dovish tone from Fed officials this week, combined with the spillover effect of a stronger yen on the broader dollar trajectory, has left the greenback on a weaker footing," said Noah Buffam, strategist at CIBC Capital Markets.

Traders are now turning their attention to Friday's US nonfarm payrolls report, which is expected to show the unemployment rate holding steady at 4.1% for August. The data will be followed next week by the release of key consumer price index figures, both of which could shape expectations for the Fed's next policy move and, in turn, influence the dollar's direction. "If inflation prints in line with forecasts, it could help the Fed avoid a September hike, and the broader environment will continue to work against the dollar," noted Jayati Bharadwaj, head of FX strategy at TD Securities.

Even before this week's slide, speculators had begun trimming their bullish dollar positions. According to data from the Commodity Futures Trading Commission, net long dollar positions held by hedge funds, asset managers, and other traders fell to approximately $27.6 billion in the week ending August 25. That marks a significant reduction from nearly $50 billion at the end of July, when bullish positioning had reached its highest level since 2014. Wall Street strategists are also bracing for further dollar weakness, with Bank of America recommending short positions on the dollar against the yen and forecasting the Japanese currency to strengthen to 149 by year-end. TD Securities, meanwhile, maintains a "mildly bearish" outlook on the dollar for the remainder of the year.