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Euro-Dollar Faces Lose-Lose Situation Heading into ECB Decision: XM.com
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Euro-Dollar Faces Lose-Lose Situation Heading into ECB Decision: XM.com
Mar 22, 2024 2:18 AM

Written by Marios Hadjikyriacos, Senior Investment Analyst at XM.com. An original version of this article can be found here.

The scales have tipped in favour of another ECB rate increase on Thursday, following media reports that the central bank will revise its 2024 inflation forecasts higher.

Markets are now pricing in a 70% probability that the ECB will raise rates tomorrow, for the final time this cycle.

This repricing helped boost the euro, particularly against the British pound, which has fallen victim to the deterioration in global risk sentiment.

That said, investors seem to have ignored the part saying the ECB will also downgrade its growth forecasts, recognising the worsening macro outlook.

For the euro, tomorrow’s ECB decision seems like a lose-lose situation.

Even if the single currency spikes higher on a rate hike, the reaction might be minor and short-lived, as that’s the baseline scenario already and higher rates would simply add to concerns about faltering growth leading to a mild recession.

Euro-Dollar Eyes U.S. Inflation Next

Traders are locked and loaded for another edition of US inflation data today. Markets have concluded that the Fed won’t raise rates next week and this report is unlikely to change this notion.

Still, it could shape expectations around the November meeting, which is priced almost as a coin toss.

Annual CPI inflation is projected to have risen to 3.6% in August from 3.2% previously, reflecting the resurgence in energy prices. In contrast, the core rate is seen moderating to 4.3% from 4.7% in July, with favourable base effects doing the heavy lifting.

While Fed officials and investors usually focus on core CPI, the initial algorithmic-driven market reaction might come from the headline reading.

As for any surprises, the risks seem tilted towards a slightly hotter-than-anticipated inflation report, judging by the ISM business surveys and the Cleveland Fed nowcast model.

The nowcast points to upside surprises in both the headline and core CPI prints. However, it’s a narrow model that mostly captures energy prices, so it should be taken with a grain of salt.

Overall, the dollar has turned into an ‘all weather currency’ again, offering a combination of solid economic fundamentals, highly attractive yields, and safe haven qualities.

That stands in antithesis to the rest of the FX arena. Europe and China are battling severe economic slowdowns, the Japanese yen has been wrecked by rate differentials, and sterling is vulnerable to any shifts in risk appetite.

In short, the inflation report today will only influence short-term trading dynamics. In the big picture, the outlook for the dollar seems increasingly bright, amid a shortage of viable FX alternatives.

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