Given the robust state of the US economy, the Fed has the latitude to proceed with caution in cutting rates. In contrast, the ECB is under pressure to act with haste, which could weaken the euro. Let’s discuss this topic and make a trading plan for the EURUSD pair.
The article covers the following subjects:
Major Takeaways
- US PMI surges to near 3-year high, signaling the economy’s strength.
- The Fed will trim its forecasts for the federal funds rate for 2025.
- The ECB will continue to loosen monetary policy.
- The EURUSD pair will slide to parity by the middle of next year.
US Dollar Fundamental Forecast for Six Months
A robust economy is a foundation for a strong currency. This principle is as old as civilization itself, yet it remains as effective as ever. Another indicator that the US economy is outperforming the eurozone was the US PMI report. While the composite PMI of the currency bloc was approaching the critical 50-point threshold, its US counterpart reached a nearly 3-year high. The divergence in economic growth prevented another bullish shift in the EURUSD pair.
At the beginning of 2024, the consensus was that US GDP would gradually cool under the influence of the Fed’s most aggressive monetary expansion in four decades, occurring between 2022 and 2023, and expand by a maximum of 1%. At worst, the US will slip into recession. In fact, the economy expanded 2.8% in the third quarter and will grow 3.3% in the fourth quarter, according to a leading indicator from the Atlanta Fed. As a result, forecasts for 2025 have been revised upwards, increasing the divergence in economic growth with the eurozone.
Growth Outlook for US and EU Economies
Source: Bloomberg.
In a robust economic climate, inflationary pressures tend to be elevated. Furthermore, as Americans begin to spend more freely, they are likely to anticipate that imported goods will be inaccessible due to the tariffs imposed by Donald Trump. In Europe, the prevailing economic conditions are distinct. Christine Lagarde stated that the risk of high core inflation derailing the return to stable prices had diminished. Isabelle Schnabel asserted that CPI stabilization was a goal that could be achieved, enabling the ECB to maintain its policy of cutting interest rates. Pierre Wunsch stated that the European Central Bank was comfortable with futures market signals indicating four to five acts of monetary expansion in 2025.
The FOMC’s September projections indicated four rate cuts in the coming year. However, officials expressed concern at the time that such estimates, coupled with a sharp 50 bp cut in borrowing costs, could spark a panic in financial markets. They stated that the Fed was taking an overly aggressive approach, reflecting that there were underlying issues with the US economy.
In fact, there is nothing inherently problematic about the US economy. The labor market is showing signs of improvement by the end of the year compared to the third quarter, GDP is expanding, and inflation has accelerated to 2.7%. Against this backdrop, some FOMC members may even vote against lowering borrowing costs in December. When viewed in conjunction with a significant rate cut outlook, this could allow EURUSD bears to seize the initiative.
US–Europe Interest Rate Spread
Source: Bloomberg.
EURUSD Trading Plan for Six Months
Therefore, the US Federal Reserve plans to pursue a more gradual approach to monetary expansion than the European Central Bank. In addition, the anticipated impact of Donald Trump’s policies may further widen the rate gap. Based on these considerations, the EURUSD pair will likely slide to 1.03 by early March and reach parity by early June, as noted in my previous forecast. The recommendation is to sell.
Price chart of EURUSD in real time mode
The content of this article reflects the author’s opinion and does not necessarily reflect the official position of LiteFinance. The material published on this page is provided for informational purposes only and should not be considered as the provision of investment advice for the purposes of Directive 2004/39/EC.
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