EUR/USD Slumps on Unfavorable Policy Dynamics

EUR/USD Analysis

This week's hot US inflation report revealed stubborn price pressures, as CPI rose to 3.5% and the highest levels in half a year, which makes it harder for the Fed to begin removing monetary restraint. Markets have now price out chances for a June cut and according to CME's FedWatch Tool pricing, this process is seen starting in September and resulting in 25-50 bps of cuts (from 75 previously expected). ^[1]

The European Central Bank maintained rates again on Thursday, but its updated language seems to bring it closer to a pivot. The statement said "it would be appropriate to reduce the current level of monetary policy restriction", in the first such mention, if incoming data were to further increase confidence that inflation is "converging to the target in a sustained manner" ^[2]. Although President Lagarde did not pre-commit to a policy path and did not talk specifically of a June cut, chances of such outcome have increased, as there were already "a few members" ready to move at yesterday's meeting. ^[3]

This shift in monetary policy dynamics weighs on EUR/USD, which slumps to new 2024 lows. This brings 1.0447 in the spotlight, but we are not sure that bears are ready to take it out. The RSI points to overbought conditions, while the ECB has not committed to a pivot, while the Fed is still expected to cut to times. There is also a question whether European policymakers want to diverge too much from their US peers. These factors can contain the fall and give the opportunity to bounce. However, a return above the EMA200 that would pause the bearish momentum is a toll order.