EUR/USD Analysis

We have not had any fresh Fed commentary this week, since the communication blackout period has kicked in, ahead of the December 13-14 policy meeting. Right before this period, Chair Powell had rubber-stamped a smaller rate hike in the upcoming meeting, after a series of historically large 75 basis points increases. However, he shifted focus to the terminal rate which he expects to be higher than previously though and the period of time that policy will need to stay at restrictive levels. ^[1]

The easing in CPI and PCE inflation figures support a downshift, but Friday's strong Jobs report and other recent economic releases, show that the Fed has more work to do on the tightening front. Monday's data revealed an upside surprise to the ISM services sector activity and factory orders, while the US economy grew by a solid 2.9% in Q2 according to last week's preliminary figures.

A day after the Fed, it is the turn of the European Central Bank (ECB) to announce its policy decision. The ECB was late to begin tightening, but has done so pretty aggressively since the July lift-off, having produced an outsized rate hike of 75 basis points in its last meeting. Given the amount of tightening in such a small period of time and the softer preliminary inflation figures, ECB policy makers are also contemplating a moderation in the pace.

Over the last few days, we have seen a series of officials ready to downshift to a 0.5% increase next week, although there seems to be some division as to the next move. In an interview with Milano Finanza yesterday, Mr Lane was coy and did not rule out another 75 basis points hike. ^[2]

The prospect of a Fed slowdown allowed EUR/USD to rally in November and set five-month highs last week. However, it rejected the key 38.2% Fibonacci of the 2020 high/2022 low drop (1.0609) and faces difficulties this week, as the recent strong US data have firmed up again expectations around the Fed's rate path, while the ECB is also considering a downshift.

This creates scope for further slide towards the critical 1.0250-1.0199 region and the EMA200, but a strong catalyst would be required for daily closes below it. This could shift bias on the downside and would bring parity back into focus.

Despite the lackluster start to the week, the common currency has not relinquished control and trades above the DMA200. As such, it can take another crack to 1.0609, although sustained strength above 1.0787 may prove elusive in the near-term.