Euro-Dollar Aims for Parity Amid Fed-ECB Divergence

The EURUSD currency pair found temporary support in Friday’s trading after plummeting to around 1.0220 on Thursday, marking the lowest level for the pair in two years.

According to analysts from Societe Generale, the Euro-dollar cross resumed its downward trend after falling below the recent range's lower boundary of 1.0330.

They noted, "The daily MACD has begun showing positive divergence, but there are no clear signs of a significant bounce yet. The peak reached earlier this week near 1.0460 represents a crucial resistance level in the near term."

Failure to surpass this resistance could indicate a continued downtrend, with potential targets projected at 1.0070 and 1.0000.

Market analysts predict further declines in the major currency pair, with expectations of it reaching parity due to the differing monetary policy outlooks from the Federal Reserve (Fed) and the European Central Bank (ECB).

In the United States, Fed officials have indicated fewer interest rate cuts anticipated in 2025, while ECB officials are likely to continue with rate cuts at their current pace.

The latest dot plot from the Fed’s Summary of Economic Projections shows that officials expect Federal fund rates to fall to 3.9% by year-end. This represents a shift in expectations, with predictions of two interest rate cuts this year compared to four anticipated in September.

Market participants have also reduced their dovish expectations for the Fed. They anticipate that policies from President-elect Donald Trump's upcoming administration, including tighter immigration, increased import tariffs, and tax cuts, could enhance both growth and inflation in the US economy.

The DXY Dollar Index, which measures the value of the US dollar against six major currencies, dipped slightly on Friday but remained near its highest level in two years, above 109.00.

Moving forward, investors will closely watch a series of US labor market reports that may influence Fed interest rate expectations. Currently, it is nearly certain that the Fed will maintain interest rates in the range of 4.25-4.50% during January's policy meeting.

On Friday, the dollar’s direction will largely depend on the US ISM Manufacturing Purchasing Managers Index (PMI) data for December, projected to remain steady at 48.4, indicating consistent contraction in manufacturing activities.

ECB Expects Four Rate Cuts This Year

The EURUSD is unlikely to hold the immediate support level at 1.0220, as traders are pricing in a reduction of 113 basis points (bps) in interest rates by the ECB this year, implying at least four cuts of 25 bps amid growing concerns about Eurozone inflation trailing the central bank's target of 2%.

ECB officials are reportedly comfortable with the market expectations of four rate cuts.

On Thursday, Yannis Stournaras, a member of the ECB Governing Council and Governor of the Bank of Greece, stated in an interview that the base interest rates of the central bank should decrease to approximately 2% by autumn this year. This suggests that the ECB will likely cut its Deposit Facility rate in each of its forthcoming four meetings.

In addition to persistent inflation risks, a weak economic environment and potential effects of a trade war with the US on Eurozone exports have solidified the ECB's dovish outlook.

On Thursday, the HCOB Manufacturing PMI for December, compiled by S&P Global, indicated that manufacturing activity has contracted at a slightly faster pace than initially reported, settling at 45.1 against a preliminary estimate of 45.2.

Investors will continue to focus on the forthcoming preliminary data for German and Eurozone Harmonized Index of Consumer Prices (HICP) for December, set to be released on Monday and Tuesday respectively.

currency, analysis, economy