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EUR/USD hits 6-month high post Fed, focus turns to ECB

Published 2022-12-15, 03:54 a/m
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Investing.com -- The reaction of the EUR/USD pair to the Fed meeting may have come as a surprise, as the euro marked a new 6-month high of 1.0696 shortly after an event that was widely considered hawkish.

Although the Fed did slow the pace of rate hikes as expected, the dot plot and Jerome Powell's speech contained hawkish elements that mitigated the significance of the pivot.

EUR/USD resists hawkish Fed surprises

The dot plot, which shows the FOMC members' rate forecasts, indicated that the median expectation for interest rates by the end of 2023 is now 5.1%, compared to a forecast of 4.6% in the September projections.

The breach of the symbolic 5% mark is significant, as market expectations had been broadly aligned below 5% following the release of lower-than-expected US inflation numbers on Tuesday.

Furthermore, Powell said during the press conference:

"We anticipate that ongoing increases in the target range for the Federal Funds rate will be appropriate in order to attain a stance of monetary policy that is sufficiently restrictive to return inflation to 2% over time."

The Fed head also clarified:

“It’s now not so important how fast we go ... It’s far more important to think what is the ultimate level, and then at a certain point the question will become how long will we remain restrictive.”

Powell also touched on the topic of the timing of a potential rate cut, saying "I wouldn’t see us considering rate cuts unless there’s confidence that inflation is moving down to 2%," which rules out any rate cut before 2025 based on the central bank's current inflation forecast.

However, while these hawkish elements weighed on stock markets and other risk assets such as cryptocurrencies, the impact on the dollar remained limited, with volatility in both directions against the release, allowing EUR/USD to mark a new over-6-month high near 1.07.

EUR/USD faces ECB meeting test

The EUR/USD corrected slightly to 1.0650 shortly before the start of the European session, amid caution ahead of the ECB meeting. The ECB is also expected to slow the pace of rate hikes.

However, it seems that this decision to slow down the rate hike is not as certain as in the case of the Fed, as ING pointed out in a note published last week.

In particular, the bank pointed to recent comments by ECB Executive Board member Isabel Schnabel, who said that "incoming data so far suggest that the room for slowing down the pace of interest rate adjustments remains limited, even as we are approaching estimates of the “neutral” rate." ING thus concluded that a rate hike of "75bp is clearly still on the table."

Such a move would undoubtedly have a strong bullish impact on EUR/USD, according to the bank, which expects the currency pair to rise to 1.0750 in this scenario.

Furthermore, even in the event of a 0.5% rate hike as expected, ECB President Christine Lagarde's speech could contain hawkish details, as "the ECB seems to be increasingly concerned that the fiscal stimulus and support measures announced could extend the inflationary pressure," according to ING.

So Thursday could see EUR/USD continue to move in a lively fashion, and caution will be the order of the day.

(Translated from French)

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