Article rewritten and expanded from the original by Haresh Menghani, FXStreet (reported on August 18, 2020).
Title: EUR/USD Slides Below 1.1700 but Downside Likely Capped by Dovish Fed Policy Outlook
The euro continued its recent corrective decline against the US dollar on Tuesday, dipping modestly below the key psychological support at 1.1700. However, despite this short-term pullback, the broader outlook for the EUR/USD pair remains constructive due to fundamental macroeconomic factors, especially the Federal Reserve’s dovish policy stance.
This article explores the multi-faceted dynamics influencing the EUR/USD currency pair, examines key market drivers, and assesses the broader implications for traders and investors in the near-term and longer-term horizon.
1. Introduction: EUR/USD Corrective Decline
The EUR/USD pair witnessed further retracement during early Tuesday trading in the European session. The move extended the pair’s recent pullback from 1.1916, a two-year high recorded earlier in August. As the pair approached the 1.1680 level, markets responded to a combination of technical and fundamental factors.
Despite the decline, analysts generally believe that the euro’s downturn is limited, and the underlying macro environment still favors the common currency. Some of the main factors contributing to this perspective are:
– The ongoing dovish tone from the Federal Reserve
– Expectations of extended monetary accommodation in the United States
– Europe’s relatively more successful handling of the COVID-19 pandemic compared to the United States
– A significant improvement in investor sentiment toward riskier assets and the eurozone’s recovery package
2. Federal Reserve’s Dovish Position Supports Euro Resilience
At the heart of the broader bullish sentiment on the euro lies ongoing monetary policy divergence. The Federal Reserve has announced and signaled a willingness to keep interest rates near zero for an extended period. This policy was reaffirmed at the most recent Federal Open Market Committee (FOMC) meetings.
Key aspects of the Federal Reserve’s policy that are influencing the dollar include:
– A pledge to support the economy for as long as necessary until full recovery, particularly in employment sectors
– Aggressive use of quantitative easing and unlimited bond purchases to backstop financial markets
– A tolerance for inflation to run modestly above the 2 percent target, as signaled in Fed Chair Jerome Powell’s upcoming policy speech at the Jackson Hole Symposium
These policy measures have pressured U.S. Treasury yields, keeping them at historically low levels, which in turn reduces demand for the U.S. dollar from a yield differential perspective. With the Fed showing no signs of tightening monetary policy, the dollar remains vulnerable to further depreciation as investors seek higher-yielding or safer-haven currencies elsewhere.
3. COVID-19 Pandemic and Relative Recovery Outlook
Another key driver behind the euro’s strength and the dollar’s relative weakness lies in how the two economies are coping with the COVID-19 pandemic.
– The eurozone, led by Germany and France, has managed to take decisive steps in controlling the spread of the virus, leading to greater market confidence in a more robust and quicker economic recovery
– In contrast, the United States has struggled to bring infection rates under control, which has weighed on consumer confidence and labor market growth
The eurozone also achieved a significant fiscal milestone with the passage of a €750 billion recovery fund, which will be disbursed through grants and loans to member nations hit hardest by the pandemic. This development showed unprecedented unity among EU member states and provided a long-term policy tailwind for the common currency.
4. Technical Factors and Market Sentiment
From a technical analysis standpoint, the EUR/USD pair’s retreat from multi-year highs appears to be a natural correction after an extended bullish rally that began in May 2020, when the euro was trading near the 1.08 level.
Key technical observations include:
– Continued support above the 50-day moving average on daily charts
– Limited downside with
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