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 European shares dropped in early trading on Thursday and the safe-haven dollar was up after the latest red-hot U.S. inflation reading increased investor caution about Federal Reserve rate hikes.

Wednesday's data showed U.S. consumer prices jumped 9.1% year-on-year in June, up from May's 8.6% rise.

The data was seen as firming the case for the Federal Reserve to raise rates aggressively. Policymakers might consider a 100 basis point increase at the July meeting, Atlanta Federal Reserve Bank President Raphael Bostic said.

By early European trading, money markets were pricing in a 54% chance of a full percentage point hike at the July meeting and a 46% chance of a 75 basis point rise.

Asian shares were stuck at two-year lows and European indexes opened in the red. At 0735 GMT, Europe's STOXX 600 and London's FTSE 100 were both down 0.2% on the day.

"The Fed probably needs to temper people’s expectations in terms of what they can do," said Eddie Cheng, head of international multi-asset investment at Allspring Global Investments.

"In the past hiking cycle, we have observed that inflation kept rising during the hiking cycle… it takes time for the monetary policy to affect inflation."

Cheng said that riskier assets will be the "collateral damage" in the Fed's attempts to reign in inflation.

The dollar index measuring its performance against a basket of currencies was up 0.2% at 108.43, while the dollar was up 1.1% against the yen, at its strongest since 1998.

The British pound was down 0.2% at $1.1865. In the first vote to choose who will succeed Boris Johnson as Conservative party leader, former finance minister Rishi Sunak won the biggest backing from Conservative lawmakers.

The euro was down 0.3% at $1.00325, having slipped below $1 on Wednesday for the first time since 2002.

The euro has been under pressure because of the European Central Bank lagging the Fed in ending its ultra-easy monetary policy of the past decade, as well as the economic risks from the euro zone's dependence on Russian gas.

Germany's benchmark 10-year government bond yield was up 8 basis points at 1.231%.

Italian yields rose sharply ahead of a parliamentary confidence vote which risks bringing the country's government down.

The U.S. 10-year yield was up around 7 basis points at 2.9817%. The 2-year, 10-year part of the Treasury yield curve is at its most inverted it has been at any point in this cycle, according to Deutsche Bank.

Yield curve inversion - which is when short-dated interest rates are higher than longer ones - is commonly seen as an indicator that markets are anticipating a recession.

Oil prices fell as traders saw a large U.S. rate hike possibly reducing crude demand.

Overnight, the Monetary Authority of Singapore and the Bangko Sentral ng Pilipinas surprised markets by tightening monetary policy in off cycle moves.