EUR/USD Declines for Third Consecutive Day Amid Eurozone Inflation Drop and Diverging Central Bank Policies

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Currently, the EUR/USD exchange rate is on a downward trajectory, marking its third consecutive day of decline. This trend is primarily attributed to a drop in Eurozone inflation figures for September and contrasting signals from global central banks. The EUR/USD pair has recently lost ground, approaching a support level of 1.1045, with the potential to breach the critical 1.1000 mark.

Previously, the pair had experienced a strong rally, peaking at a resistance level of 1.1214, where a sell recommendation was issued, yielding successful results. According to the latest economic data, Eurozone inflation fell to 1.8% year-on-year in September, down from 2.2% in August, now comfortably below the European Central Bank’s (ECB) target of 2.0%. Core inflation, a key concern for the ECB, also decreased from 2.8% to 2.7%. This decline raises the likelihood of an interest rate cut by the ECB in October, with a substantial 50 basis point reduction anticipated in either October or December.

Joe Touky, Head of Forex Analysis at Argentus, noted that the annual inflation rate of 1.8% aligned with expectations and did not alter the cautious outlook for European monetary policy. The EUR/USD pair remains under pressure, facing strong technical resistance at 1.12 and heading towards support at 1.1015.

In a recent address to European lawmakers, ECB President Christine Lagarde suggested that an October rate cut is possible, emphasizing that inflation appears to be on a downward trend, with upside risks diminishing. Last week, the ECB was expected to implement another rate cut in December, maintaining a quarterly pace of reductions. However, this outlook was challenged by disappointing inflation data from France and Spain, which hinted at a potential downside surprise in today’s figures.

Francesco Pesole, a Forex analyst at ING Bank, highlighted that the swap rate is widening in favor of the US dollar, currently at around -110 basis points, which is about 25 basis points lower than mid-September levels of -85 basis points. He remarked, "The notion that an inflation-sensitive ECB will act more cautiously than the Fed is losing credibility. It increasingly seems that holding rates steady in October could lead to a 50 basis point cut in December, which is reflected in the market’s pricing of -52 basis points by year-end, with 22 basis points anticipated for this month."

While ECB President Lagarde encourages markets to expect a quicker pace of rate cuts, Federal Reserve Chair Jerome Powell has dismissed expectations for a 50 basis point cut in 2024. Powell asserted that he believes two additional 25 basis point cuts are sufficient, which is less than the 70 basis points currently anticipated by the market.

The significant fluctuations in short-term interest rate differentials between the Euro and the US dollar indicate ongoing weakness in the EUR/USD pair. Analysts predict that the EUR/USD could dip below the 1.110 level in the coming days, potentially testing the 1.100 level if the US unemployment rate remains stable on Friday.

As the US dollar strengthens, the EUR/USD pair continues to face downward pressure, influenced by reduced expectations for a significant rate cut by the Federal Reserve in November. The US Dollar Index (DXY), which measures the dollar against six major currencies, has risen above 101.00. The CME FedWatch tool now indicates a 35.3% probability of a 50 basis point rate cut by the Fed in November, down from 58% just a week ago.

Recent comments from Fed Chair Powell at the National Association for Business Economics conference have helped temper market expectations for a substantial rate cut. Powell indicated that the Fed is likely to implement a 25 basis point cut in both remaining meetings this year, totaling a 50 basis point reduction. His remarks emphasized a cautious approach, balancing inflation management with economic stability. However, some Fed officials, including Atlanta Fed President Raphael Bostic, still advocate for a more aggressive 50 basis point cut if labor market data indicates weakness. This places heightened focus on upcoming US employment reports, including ADP employment change data and September non-farm payrolls, set to be released on Wednesday and Friday, respectively.

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