Even with the prospect of a big interest rate hike by the European Central Bank in September rising, the euro has struggled as the bloc’s energy crisis increases recession risks. 

Every time the price of the EUR/USD tries to rebound upwards, the negative impact factors remind investors that the euro will remain weak for a longer period of time.

At the beginning of this week’s trading, it tried to bounce upwards, but its gains did not exceed the level of 1.0030 and then returned to stability around the parity price again, before the announcement of the German inflation figures and the American consumer confidence reading.

At the beginning the week, the US dollar rose to the highest level in 20 years against the other major currencies after Federal Reserve Chairman Jerome Powell indicated that US interest rates will remain high for a longer period of time to reduce rising inflation. Accordingly, the US dollar index DXY, the measure of the US currency against a basket of major currencies, rose to the highest level of 109.48 in two decades.

On the other hand, the euro remained weak near its lowest level in 20 years, even with the tough statements of the European Central Bank, which strengthened the expectations of an interest rate hike in September.

At the end of last week, Powell told the central banking conference in Jackson Hole, Wyoming, that the Federal Reserve will raise US interest rates as high as needed to restrain growth and will keep them there “for some time” to lower the 2% inflation target, which is more than three times the Fed’s rates.

“Powell’s comments supported pricing a higher rate on federal funds for a longer period of time,” said Kenneth Brooks, a currency analyst at Societe Generale Bank, “the assumption that the Fed will start cutting interest rates in mid-2023 is premature,” he added.

The capital markets responded by intensifying bets for a sharper hike in US interest rates in September, with the probability of a 75 basis point hike currently at around 70%. Accordingly, US Treasury bond yields rose, with two-year bond yields reaching their highest level in 15 years at around 3.49%, which strengthened the US dollar. In his speech at the Jackson Hole Symposium, European Central Bank Board Member Isabelle Schnabel, French Central Bank President Francois Villeroy de Gallo and Latvia’s Central Bank Governor Martins Kazak all called for strong or important political actions.

Even with the prospect of a big interest rate hike by the European Central Bank in September rising, the euro has struggled as the bloc’s energy crisis increases recession risks. It is expected that the giant Russian energy company Gazprom will stop natural gas supplies to Europe from August 31 to September 2 due to maintenance.

Overall, the EUR/USD exchange rate has fallen significantly in 2022, and although factors such as the US economy and Fed policy have been an important driver of this decline, it is the rising cost of energy supply disruptions that gives most credence to bearish forecasters for some the other markets. Regarding the expected future for the Euro-Dollar, both “Rabobank” and “Nomura” expected a sustained break below the parity price in the Euro/Dollar rate during the coming months.

Expectations of the EUR/USD:

• The general trend of the EUR/USD currency pair is still downward and the stability below the parity price supports the bears’ control over the trend for a longer period of time.
• The continued concern about the future of energy in the Eurozone will stimulate the bears to further move down and therefore the appropriate support levels for the currency pair may currently be 0.9920 and 0.9845 and 0.9790 respectively.
• On today’s chart, the current performance pushed the technical indicators towards oversold levels.

On the upside and in the same period of time, breaking the 1.0200 resistance pair of the euro will be an opportunity to break the downward trend. Today the euro will react to the announcement of the German inflation figures and the dollar will react to the announcement of the American consumer confidence reading.

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The recent profit-taking sell-offs, especially after the US Federal Reserve’s recent announcement, the price of the USD/JPY currency pair did not come out of the general upward trend. 

The USD/JPY pair moved to the 131.49 support level, but soon the bulls moved in the general direction and rose to the resistance level is 135.42 at the end of last week. It is settling around the level of 135.40 at the beginning of this week’s trading. As I mentioned before, the future of monetary tightening of global central banks will ultimately remain in favor of a stronger US dollar.

In contrast to what the US Federal Reserve does. Japanese Prime Minister Fumio Kishida said that the monetary easing policy pursued by the Bank of Japan should remain on the right track for now, considering the negative impact of the change on small businesses. “Monetary policy should be judged comprehensively by taking into account the trends of the economy as a whole,” Kishida said before the start of trading on the Fuji Television Network programme. He added that the policy change could increase interest rate burdens on small and medium-sized businesses, which should be taken into consideration.

While the current easing policy is accelerating the weakening of the Japanese yen, which has increased the costs of commodities such as food and energy, Kishida said the government should take measures to stem the price hike. The Bank of Japan on Friday fended off speculation of tightening policy by maintaining the yield curve control program. As a result, the Japanese yen weakened after the decision, adding to concerns about the rising costs of imports for the nation.

Kishida also opposed a call by some opposition parties for a nuclear-powered submarine, saying that it would probably not be justified given the high costs of the submarines. Japan is already rolling out new submarines, such as the diesel-electric Taiji-class. The Defense Department said in a security white paper that it is looking to establish a fleet of 22 submarines. Separately, support for the Kishida government fell 5 percentage points to 48% in a survey published by the Mainichi newspaper, which showed that respondents are concerned about price hikes.

For its part, the Federal Reserve raised US interest rates by 75 basis points, the largest increase since 1994 and Governor Jerome Powell signaled another big move next month, intensifying the battle to contain rampant inflation. Powell and colleagues recently criticized their efforts to cool prices by raising the target range for the federal funds rate to 1.5 percent to 1.75 percent, after being criticized by critics for not anticipating the fastest price gains in four decades, and then for being too slow to respond.

Jerome Powell added that another increase in the US interest rate by 75 basis points, or a movement of 50 basis points, was likely at the next meeting of policy makers. They expected US interest rates to rise further this year, to 3.4 per cent by December and 3.8 per cent by the end of 2023. This was a significant upgrade from the 1.9 per cent and 2.8 per cent they set for their forecasts in March.

On the economic side, late last week, a University of Michigan survey showed that US consumer inflation expectations are pushing higher. The pollsters expected inflation to rise by 5.4 percent next year, the highest level since 1981. Long-term price expectations have also rebounded.

According to the technical analysis of the pair: the general trend of the USD/JPY currency pair is still bullish. Investors will not care about the arrival of technical indicators towards overbought levels, after the recent gains that reached its highest in 24 years. Much interest in the path of tightening the policy of global central banks, which is led by The US Federal Reserve, supports the US dollar on an ongoing basis. The closest targets for the bulls are currently 135.75, 136.20 and 137.00, respectively.

On the other hand, the general trend will not be broken without breaching the support level 130, the psychological top previously.

Despite US Federal Reserve Governor Jerome Powell’s emphasis on the Fed’s determination to keep raising US interest rates until there is clear evidence that inflation is steadily declining – a high-risk effort that carries the risk of eventually causing a recession – the USD/JPY was sold off. The pair reached the level of 128.00, near which it is stable at the beginning of trading today, Thursday.

The Fed’s increases in its benchmark short-term rate, in turn, usually raise borrowing costs for consumers and businesses, including mortgages, auto loans and credit cards. “What we need to see is inflation coming down in a clear and convincing way,” Powell said in remarks to the Wall Street Journal conference. “And we’ll keep pushing until we see that.”

The US central bank governor, who was confirmed by the Senate last week for a second four-year term, has suggested that the Fed will consider raising interest rates faster if rate increases fail to moderate. “What we need to see is clear and convincing evidence that inflation pressures are easing and inflation is declining,” Powell said. And if we don’t see that, we’ll have to think about moving more aggressively. And if we see that, we can consider moving to a slower pace. ”

He added that the Fed would “not hesitate” to push the benchmark interest rate to a point that would slow the economy if necessary. While it’s unclear what the level might be, Fed officials hold it at around 2.5% to 3%, roughly three times its current position.

Powell’s comments on Tuesday followed others he made that indicated the Fed is carrying out a series of rate hikes that could amount to the fastest credit tightening in more than 30 years. At a meeting earlier this month, the Federal Reserve raised its key US interest rate by half a point – double the usual increase – for the first time since 2000, to a range of 0.75% to 1%. At a post-meeting press conference, Powell suggested that Fed officials continue to raise rates by half a point, at the June and July meetings.

The Federal Reserve Chairman seemed unconcerned this week about the sharp decline in the US stock market over the past six weeks. Those declines partly reflect concern on Wall Street that the Fed’s efforts to rein in inflation, which is at its highest levels in 40 years, could weaken the economy as much as lead to a recession. Stock prices often also fall as interest rates rise, increasing the yield on bonds.

When asked whether a rate hike by the Fed could disrupt financial markets, without necessarily lowering inflation, Powell replied, “I don’t expect that to happen.”

The USD/JPY currency pair has not exited the path of its ascending channel, and according to the performance on the daily chart below, this may happen if the currency pair moves towards the support levels 126.80 and 125.00. On the other hand, and in the same time period, stability above the psychological resistance 130.00 will be important for the bulls to regain control of the trend again. The US dollar pairs will be affected today by the weekly jobless claims, Philadelphia manufacturing index and US existing home sales.

ECB disavows any fiscal tightening; EUR loses ground against USD; Eurozone inflation data worsen.

The European Central Bank recently released its monetary policy meeting minutes, showing that the bank’s policymakers supported the decision to continue with an accommodative monetary policy stance until March 2022.

The committee also expressed concerns regarding the future of the Eurozone economy, as they expect the economy to return to pre-crisis levels by the middle of 2022.

European Central Bank President Christine Lagarde recently warned against stopping stimulus measures now that economic recovery is in sight.

“Any kind of tightening at the moment would be very unwarranted,” she commented, adding that doing so could lead to “very serious risks”.

The Eurozone continues to struggle with inflation and the effects that exchange rates are having on it. The recent appreciation of the euro is a matter of concern for policymakers, since it is making exports more expensive and hurting local producers.

“It was pointed out that the nominal effective exchange rate currently stood at an all-time high and that the recent appreciation could contribute significantly to the subdued inflation outlook,” stated the ECB Monetary Policy Committee in its minutes.

The Eurozone economy is expected to rebound by 5.3% this year, as many expect the economy to return to normalcy now that a vaccination campaign is underway.

The ECB Monetary Policy Committee is expected to meet next Thursday.

Economic Calendar

This week, the markets learned some relevant information about the state of the European economy. On Wednesday, Eurostat reported that industrial production stood at 2.5%, against October’s 2.3% and expectations of 0.2%. In yearly terms, it fell by 0.6%, higher than expectations of 3.3% and the previous month’s 3.5% drop.

Euro Loses Ground Against the Dollar

So far this week, the euro has dropped by 0.63%, breaking a two-week gaining streak.

Many link this sudden weakness of the euro with the recent strength of the US dollar, as the markets expect President-elect Joe Biden to announce a very ambitious fiscal stimulus package. Those expectations made traders rush from bonds to stocks and the dollar.

“With labor really struggling, there’s an argument that we could push for a higher stimulus number,” commented an analyst at OANDA. “In the end, markets are anticipating that we’re going to see more stimulus than what is expected in Biden’s first 100 days and that’s why we’re seeing the dollar holding up.”

As we already mentioned, European policymakers have been very concerned regarding the recent appreciation of the euro, as it poses a problem for exporters. Many speculate that this opens the doors for a Forex intervention, though it’s not clear if such a step is likely at this point.

Eurozone Inflation Data Worsen

Since our last report, inflation data have worsened. In yearly terms, the Consumer Price Index fell by 0.3%, higher than expectations of -0.2%. In monthly terms, the Consumer Price Index remained in line with expectations at -0.3%.

Inflation remains too low, taking into account that the European Central Bank aims for a 2% inflation level.

The unemployment rate has improved at 8.3% according to the last reading, and better than expectations of 8.5%.

Gross domestic product data have remained unchanged until now.

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