29.03.2023 08:33 AM
EUR/USD: the euro is teasing the dollar with ECB backing

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The euro keeps its high ground against the dollar, though many analysts expect the latter to decline moderately. Nonetheless, the single currency is defending its right to lead in the EUR/USD pair, even if it is a short-term one. The greenback continues to build up its potential for another breakthrough.

With the market gradually stabilizing after the recent banking crisis, the EUR/USD pair also seeks to find equilibrium. Nordea Bank currency strategists are confident that it will continue to rise, while the dollar will strengthen. At the moment, the greenback has lost some of its positions, having suffered from the difference in rate cuts of the European Central Bank and the Federal Reserve.

Nordea Bank thinks that the ECB will need to try harder than the Fed to bring inflation under control. Such a decision will push the EUR/USD pair higher. At the moment, the euro is leading the pair, as the greenback struggles to regain its throne. On Wednesday, March 29, the EUR/USD was trading near 1.0830, alerting markets with another spike in volatility.

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However, with increasing uncertainty in the financial market, a new global downturn is possible, Nordea Bank believes. Against this background, the US currency may strengthen and bypass the European one. At the moment, the euro is rising due to market optimism amid the easing of stress over the global banking crisis. This provides significant support for the euro and high-yielding assets, but reduces the greenback's chances for a long uptrend. The two main "culprits" of the recent uncertainty in the European financial market, Deutsche Bank and UBS, were able to minimize losses. At the same time, over the past few days, the shares of both banks have increased, demonstrating investors' optimism about their financial situation and the consequences of the Credit Suisse takeover.

The divergence of monetary strategies of the ECB and the Fed remains in focus, along with the reassessment of the risks of a large-scale banking crisis and a shortage of liquidity in the interbank market. The rhetoric of ECB officials indicates that the risks of increased inflation are high, and the central bank needs to be more decisive. Representatives of the ECB are confident that now the drivers of inflation have intensified, and the space for raising rates has increased. This shifts the risks of tightening the ECB's monetary policy in favor of a prolonged and more aggressive rate hike. Against this background, the statements of Fed officials look more cautious, and the actions are balanced.

The fact that the ECB is leading in this "race" to tighten rates creates the prerequisites for a further rally in the EUR/USD pair. According to experts, the pair is moving in an uptrend, rushing to 1.0910. If the current trends strengthen, the nearest target will be 1.1000.

According to analysts, risks on the Fed's key inflation indicator, namely the Core PCE, have shifted downward. Against this background, the dollar may test new local lows, experts warn. Back in March, the US consumer confidence index from the Conference Board surpassed the forecasts, hitting 104.2 points instead of the expected 101 points. In addition, over the month, the change in real estate prices amounted to 0.2%, and the Case-Shiller 10-city index increased by 2.5% year-on-year. The current macro data provides optimism in the U.S. stock market, although some analysts and Fed officials feared that the recent banking crisis will bring the country closer to recession.

This concern is justified, as the financial "shake-up" contributed to a tightening of financial conditions, i.e. became the equivalent of a Fed rate hike. At the same time, experts have fixed some prerequisites for such a development. Take note that tightening of financial conditions means that banks will reduce lending. Further it provokes a decline in inflation, the analysts note.

At the moment, the Fed and the markets overestimate the impact of the current banking crisis on inflation. Experts concede that the recent turmoil in the financial market, which has forced the Fed to slow the pace of rate hikes, will not bring the recession closer, but will delay its onset. According to preliminary estimates, now there is no evidence of the possible onset of recession in the U.S.

The problem of high inflation and combating it will remain acute in the near future. Against this backdrop, the Fed will come back with another rate hike, competing with its European counterpart in this matter. In such a situation, the demand for the greenback as a safe-haven asset will rise. Under such a scenario, the USD would replace the EUR, once again enthralling the global financial area. However, if the Fed's rhetoric and its monetary policy softens, the dollar will fall, experts believe.

Larisa Kolesnikova,
Analytical expert of InstaForex
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