Euro: Policy divergence supports against US Dollar – Rabobank

Rabobank’s Senior Macro Strategist Teeuwe Mevissen notes that divergence between the Federal Reserve (Fed) and European Central Bank (ECB) is becoming more important for EUR/USD. The Fed has dropped its easing bias and kept rates at 3.50–3.75%, while the ECB has resumed tightening with a 25 bp hike. Mevissen argues these relative rate dynamics could support the Euro near term, though weaker Eurozone growth and energy vulnerability offset this.

Policy divergence underpins Euro prospects

"Last week’s Federal Reserve meeting saw the dropping of the easing bias narrative. The Fed held the target range for the federal funds rate at 3.50–3.75%, citing solid economic activity and still-elevated inflation pressures. At the same time, updated projections suggest only a gradual decline in inflation towards the 2% target, with core PCE inflation expected to remain above target through 2026."

"We expect two rate cuts in April and June next year."

"In contrast, the European Central Bank has already shifted back into tightening mode, raising policy rates by 25 basis points earlier in June. The ECB explicitly cited the inflationary effects of the energy shock and revised its inflation projections upward, now expecting headline inflation to average 3.0% in 2026. At the same time, growth forecasts were revised down—highlighting the stagflationary trade-off facing policymakers."

"In currency markets, divergence in monetary policy paths is becoming increasingly relevant. With the ECB tightening and the Fed on hold, relative rate dynamics could provide some support for the euro in the near term. However, this is counterbalanced by weaker growth prospects in the Eurozone and a higher vulnerability to energy shocks."

"More broadly, cross-asset dynamics continue to be shaped by the interplay between inflation and growth expectations. The current environment is characterized by: Equity markets pricing resilience, Bond markets pricing persistent inflation and commodities reflecting geopolitical risk. This divergence suggests that markets have yet to converge on a coherent macro narrative."

(This article was created with the help of an Artificial Intelligence tool and reviewed by an editor.)