The evolving political and economic landscape has prompted questions about the EURUSD pair’s robust response to the US inflation data for July. However, the shift in the underlying dynamics suggests a different narrative. Let’s delve into this topic and make a trading plan.
The article covers the following subjects:
Highlights and key points
- Markets are more worried about recession than inflation.
- The US dollar is being sold on expectations of a Fed rate cut to 3%.
- Unexpected inflation figures may change the balance of power.
- Is it worth opening long trades once the EURUSD pair breaches 1.0945?
Weekly US dollar fundamental forecast
In light of significant shifts in the political and economic landscape, will markets respond tumultuously to US inflation data? The dust after Black Monday has settled, and investors are increasingly focused on the prospect of a recession and are closely monitoring the pace at which the Fed will ease monetary policy. Meanwhile, Kamala Harris has mounted a challenge to Donald Trump, and market confidence in a Republican victory in November has significantly diminished. Nevertheless, inflation remains a primary driver for the EURUSD, as it provides insight into the potential actions of the Fed.
The euro is facing significant challenges. These include the weakness of the European economy, the impact of the French political crisis, rising energy prices due to the escalation of conflicts in Eastern Europe and the Middle East, and the ECB’s intention to reduce the deposit rate once a quarter, as indicated by the latest Bloomberg survey of experts. As a result, the cost of borrowing is expected to fall to 2.25% by December 2025.
ECB interest rate and rate expectations
Source: Bloomberg.
Nevertheless, the EURUSD pair is poised to breach the upper boundary of its short-term consolidation range between 1.088 and 1.0945. This move could signal the resumption of an uptrend. The market anticipates a reduction in the federal funds rate to 3% over the next 12-18 months. Given the Fed’s accommodative monetary policy, the US dollar will likely decline. Therefore, it may be advantageous to initiate short trades at this time.
Market expectations on federal funds rate
Source: Bloomberg.
The Federal Reserve succeeded in anchoring inflation expectations by tightening monetary policy and maintaining borrowing costs at 5.5% for an extended period. The New York Fed survey revealed that consumers reduced their expectations for inflation over the next three years, lowering the figure to 2.3% from 2.9% in July, the lowest reading since record-keeping began in 2013. Meanwhile, it is still unclear whether inflation has been defeated.
If the market anticipates the return of the previous low-price regime, why does it not anticipate a federal funds rate below 3%?
Fed funds rate change
Source: Bloomberg.
Investors are anxious about the prospect of a recession but are optimistic about the potential for inflationary pressures to subside, suggesting that CPI data remains a key indicator. Should consumer price growth exceed the 2.9% forecast by Bloomberg experts, it could boost US Treasury bond yields and the US dollar.
Weekly EURUSD trading plan
However, the EURUSD rally ahead of the important release indicates that traders expect the disinflationary process to continue, which will result in the Fed’s aggressive monetary expansion. One can buy the euro on a breakout of the resistance level 1.0945, but this move is risky since large sellers are near 1.097 and 1.1.
Price chart of EURUSD in real time mode
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