The sharp slowdown in US inflation has significantly reduced expectations that the Fed will tighten monetary policy in July, putting pressure on the US dollar. However, it is still too early for EUR/USD bulls to celebrate. Let’s examine the key drivers and develop a trading plan.
The article covers the following subjects:
Major Takeaways
- The EUR/USD pair has surged following the US CPI report.
- The conflict in the Middle East is continuing.
- Kevin Warsh intends to correct the Fed’s mistake.
- Long positions can be increased if the EUR/USD pair breaks through 1.137.
Weekly Fundamental Forecast for Dollar
The conflict in the Middle East is increasingly becoming a war of attrition, and the market’s reaction to the June US consumer inflation report appears to have been overly emotional. Kevin Warsh has argued that the Fed should not overreact to a single data point, emphasizing that one report is not enough to declare victory over inflation. Judging by the sharp rally in EUR/USD quotes, investors do not share his view.
Donald Trump has threatened to intensify airstrikes if Iran refuses to return to the negotiating table. At the same time, divisions within the administration are complicating any further escalation, while advocates of a diplomatic solution remain constrained. As a result, both sides are engaged in a test of endurance. Washington is reluctant to let the conflict drag on ahead of the November midterm elections and is wary of a sustained rally in Brent crude fueling US inflation. Meanwhile, Tehran risks further economic damage under sanctions but is betting that the US will blink first.
US Inflation Change
Source: Wall Street Journal.
The renewed escalation of the conflict in the Middle East suggests that July is unlikely to be as favorable for inflation as June. At the end of the first month of summer, headline consumer inflation slowed from 4.2% to 3.5%, while core CPI eased from 2.9% to 2.6%. That undermined the hawks’ strongest argument—that elevated energy prices would eventually feed through into core inflation. As a result, market-implied odds of a federal funds rate hike at the next FOMC meeting plunged from 40% to 17%, dragging the US dollar lower.
Expectations For Fed Rate Hike
Source: Bloomberg.
The probability of two rounds of monetary tightening in 2026 has dropped from 58% to 35%. At the same time, futures markets are pricing in two ECB deposit rate hikes, with the first expected as early as September. This widening divergence in monetary policy expectations has boosted the EUR/USD pair.
However, it is still too early for the euro to celebrate. The higher Brent crude climbs, the greater the strain on the eurozone economy. The key question is whether it can withstand tighter monetary policy—or whether futures markets have become overly optimistic.
Judging by Kevin Warsh’s determination to correct what he sees as the Fed’s mistake of allowing inflation to remain above target for years, the case for another federal funds rate hike remains intact. June’s slowdown in consumer inflation may prove to be as temporary as the US-Iran ceasefire—an agreement that exists on paper but appears unlikely to hold. If inflation accelerates again in the coming months, the US dollar could quickly regain the upper hand.
Weekly Trading Plan for EUR/USD
At the same time, the EUR/USD pair’s recent gains may prove to be short-lived. Only a decisive breakout above the 1.137–1.147 consolidation range would allow investors to add to the long positions established near its lower boundary. Conversely, if bulls fail to secure such a breakout, it would be a signal to lock in profits and consider switching to short positions.
This forecast is based on the analysis of fundamental factors, including official statements from financial institutions and regulators, various geopolitical and economic developments, and statistical data. Historical market data are also considered.
Price chart of EURUSD in real time mode
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