EUR/USD drops on US Dollar's recovery, steady Eurozone inflation
- EUR/USD surrenders intraday gains and drops to 1.0700 after strong US Q1 Labor Cost Index.
- The Eurozone's high inflation and strong Q1 GDP growth fail to provide a sustainable boost to the Euro.
- The US Dollar is expected to remain firm amid caution ahead of the Fed’s policy decision.
EUR/USD reverses intraday gains and drops to the crucial support of 1.0700 in Tuesday’s early New York session. The Euro fails to hold gains driven by strong Eurozone data against the US Dollar after the United States Bureau of Labor Statistics (BLS) reported a strong growth in the Q1 Employment Cost Index.
The economic data, a leading indicator of wage growth, grew at a robust pace of 1.2% from the estimates of 1.0% and the former reading of 0.9%. This has deepened fears of US inflation remaining stubbornly higher, as strong wage growth leads to robust household spending, which eventually fuels price pressures.
On the Eurozone front, preliminary inflation data for April and Gross Domestic Product (GDP) data for the first quarter have beat the consensus. Annually, the Harmonized Index of Consumer Prices (HICP) rose steadily and met estimates while core HCPI, that excludes food and energy prices, softened on a slower pace.
The Eurozone economy expanded at a stronger rate of 0.3% in the first quarter even though the European Central Bank (ECB) is maintaining its Main Refinancing Operations Rate at historic highs of 4.5%.
The Euro's failure to hold gains after the release of the key economic indicators suggests that investors’ confidence about the ECB pivoting to interest rate cuts from June is intact. Speculation that the ECB will reduce interest rates starting in June remains unabated as a majority of ECB policymakers have also backed a rate-cut move. A few see the rate-cut campaign extending to following meetings this year.
Daily digest market movers: EUR/USD fails to hold recovery after upbeat US Q1 Labor Cost Index
- EUR/USD falls back to the crucial support of 1.0700 in the aftermath of Eurozone inflation and Q1 GDP data. Eurostat reported that inflation remained almost steady in April and Q1 GDP outperformed estimates. Eurozone’s headline inflation rose in line with the consensus and the prior reading of 2.4%. The annual core inflation, which strips off volatile food and energy prices, grew at a higher pace of 2.7% from the estimates of 2.6% but decelerated from the prior reading of 2.9%.
- Monthly headline and core inflation rose by 0.6% and 0.7%, respectively. The Eurozone economy expanded at a strong rate of 0.3% in Q1, beating expectations of 0.1% and a stagnant performance in the last quarter of 2023. Annually, the Q1 GDP growth rate was double the expectations of 0.2%.
- Steady preliminary inflation for April, combined with robust Q1 GDP growth, is less likely to impact expectations of rate cuts by the European Central Bank, which financial markets are expected to start in June.
- On the other side of the Atlantic, The US Dollar recovers amid caution ahead of the Federal Reserve’s monetary policy decision, which will be announced on Wednesday. The US Dollar Index (DXY) recovers from 105.50 but remains inside two-week’s trading range of 105.40-106.50. The Fed is expected to keep interest rates unchanged in the range of 5.25%-5.50% for the sixth time in a row as price pressures in the United States remain stubbornly higher due to strong wage growth.
- The Fed will likely endorse keeping interest rates on hold at their current level for longer until it gets greater confidence that inflation will sustainably return to the desired rate of 2% target. Investors would look for whether the Fed will remain committed to its three rate-cut projections for this year provided in March’s dot plot.
- Apart from Wednesday’s Fed policy decision, investors will also focus on the US ADP Employment Change and the ISM Manufacturing Purchasing Managers Index (PMI) report for April.
Technical Analysis: EUR/USD struggles to sustain above 1.0700
EUR/USD struggles for a firm footing above the round-level support of 1.0700. The major currency pair struggles to break above the 20-day Exponential Moving Average (EMA), which trades around 1.0725.
The panoramic view of the EUR/USD pair indicates a sharp volatility contraction due to a Symmetrical Triangle formation on a daily timeframe. The upward-sloping border of the triangle pattern is plotted from October 3 low at 1.0448 and the downward-sloping border is placed from December 28 high around 1.1140.
The 14-period Relative Strength Index (RSI) shifts into the 40.00-60.00 range, suggesting indecisiveness among market participants.
Fed FAQs
Monetary policy in the US is shaped by the Federal Reserve (Fed). The Fed has two mandates: to achieve price stability and foster full employment. Its primary tool to achieve these goals is by adjusting interest rates. When prices are rising too quickly and inflation is above the Fed’s 2% target, it raises interest rates, increasing borrowing costs throughout the economy. This results in a stronger US Dollar (USD) as it makes the US a more attractive place for international investors to park their money. When inflation falls below 2% or the Unemployment Rate is too high, the Fed may lower interest rates to encourage borrowing, which weighs on the Greenback.
The Federal Reserve (Fed) holds eight policy meetings a year, where the Federal Open Market Committee (FOMC) assesses economic conditions and makes monetary policy decisions. The FOMC is attended by twelve Fed officials – the seven members of the Board of Governors, the president of the Federal Reserve Bank of New York, and four of the remaining eleven regional Reserve Bank presidents, who serve one-year terms on a rotating basis.
In extreme situations, the Federal Reserve may resort to a policy named Quantitative Easing (QE). QE is the process by which the Fed substantially increases the flow of credit in a stuck financial system. It is a non-standard policy measure used during crises or when inflation is extremely low. It was the Fed’s weapon of choice during the Great Financial Crisis in 2008. It involves the Fed printing more Dollars and using them to buy high grade bonds from financial institutions. QE usually weakens the US Dollar.
Quantitative tightening (QT) is the reverse process of QE, whereby the Federal Reserve stops buying bonds from financial institutions and does not reinvest the principal from the bonds it holds maturing, to purchase new bonds. It is usually positive for the value of the US Dollar.
Author
Sagar Dua
FXStreet
Sagar Dua is associated with the financial markets from his college days. Along with pursuing post-graduation in Commerce in 2014, he started his markets training with chart analysis.
