Originally written by Kenny Fisher – ForexCrunch.com
EUR/USD Forecast: Dollar Holds Firm as Fed Rate Cut Expectations Recede
The euro struggled to gain traction against the U.S. dollar as the week began, with EUR/USD trading almost flat amid declining expectations for imminent interest rate cuts by the Federal Reserve. The currency pair has been hovering in a narrow range around 1.0650 in subdued Monday trading, reflecting a cautious mood in the broader financial markets.
Let’s delve deeper into the evolving dynamics shaping the EUR/USD exchange rate and explore the key drivers of recent price action, including macroeconomic trends, central bank policy expectations, and technical patterns.
U.S. Dollar Maintains Strength Amid Fed Outlook Shift
The U.S. dollar remains resilient against its major counterparts as investors scale back their expectations for aggressive policy easing by the Federal Reserve. Earlier this year, markets had priced in multiple rate cuts in 2025, anticipating significant softening in inflation and economic growth. However, recent developments have chipped away at those assumptions.
Key Factors Supporting the U.S. Dollar:
– Strong U.S. economic data, including GDP growth, labor market resilience, and retail sales numbers, has bolstered confidence in the Fed’s current policy stance.
– Inflation remains persistent, particularly in the services sector, making it challenging for the central bank to pivot quickly.
– Diminishing bets on near-term rate cuts have lifted U.S. Treasury yields, providing added support to the greenback.
– Safe-haven flows, in response to geopolitical risks and global uncertainties, have further underpinned the dollar.
The CME FedWatch tool currently shows reduced probability for a rate cut in the first quarter of 2025. While the Fed remains data-dependent, the bar for easing monetary policy appears to be higher than previously expected.
Euro Struggles as Eurozone Outlook Remains Gloomy
In contrast to the United States, the Eurozone economy continues to show signs of stagnation. With tepid growth and sluggish inflation, the European Central Bank faces a complex challenge. Although the ECB has left interest rates unchanged since September 2024, its language has become more cautious about tightening further.
Factors Pressuring the Euro:
– Economic indicators for Germany and France, the two largest economies in the bloc, have suggested contraction or stagnation in industrial production and business confidence.
– Eurozone inflation, while sticky in some areas, lacks the upward momentum that would justify further rate hikes.
– The ECB’s dovish tone during recent meetings, including suggestions of possible rate normalization in 2025, has dampened euro sentiment.
– Diverging central bank paths between the Fed and the ECB have widened interest rate differentials, weakening the euro.
With the ECB expected to maintain or possibly even reduce interest rates in the coming months while the Fed resists calls for easing, the monetary divergence continues to weigh heavily on the EUR/USD outlook.
Market Pricing and Interest Rate Differentials
Interest rate differentials remain one of the key forces behind EUR/USD’s broader trend. Investors closely monitor the spread between U.S. and German bond yields to gauge the attractiveness of one currency over the other. Currently, the yield on 10-year U.S. Treasuries is significantly higher than on comparable German Bunds, reflecting diverging monetary policies and inflation expectations.
Interest Rate Trends:
– The Federal Reserve’s benchmark interest rate stands at 5.50 percent.
– The European Central Bank’s main refinancing rate is significantly lower at 4 percent.
– Market pricing now reflects just one expected cut by the Fed in 2025, compared to earlier expectations of two or three cuts.
– For the ECB, at least one rate cut is likely by mid-2025, based on current inflation data and economic growth forecasts.
The shift in rate expectations has reinforced the structural support for the U.S. dollar and could potentially push EUR/USD lower in the absence of positive euro-area surprises.
Technical Analysis: EUR/USD Trading in Range
From a technical perspective
Read more on EUR/USD trading.