The Euro Regains Its Confidence

[Ben Graham]

The European Central Bank's (ECB) upward revisions to inflation and GDP forecasts, amidst a slowdown in U.S. CPI, allow the EUR/USD pair to continue its rally.

When the market does not move in the expected direction, it can make a sharp turn the opposite way. The ECB meeting and the U.S. inflation report provided the euro with additional advantages and invited the EUR/USD pair to rise. U.S. consumer prices slowed more than expected, while the ECB raised its inflation and GDP forecasts. What better reason could there be to sell the dollar and buy the regional currency? Unfortunately, traders made this decision with some delay.

The ECB expects inflation in the eurozone to rise by 2.1% in 2025, 1.9% in 2026, and 1.8% in 2027, with a return to the target expected only in 2028. The GDP forecast for this year was raised from 1.2% to 1.4%, and for next year, from 1% to 1.2%. The economy is expected to expand by 1.4% each year over the next two years.

ECB's Inflation and GDP Forecasts

The ECB is determined to anchor inflation near 2% and will continue to base its decisions on incoming data. Christine Lagarde noted the positive impact of government spending and private investment on GDP. She still believes that rates will continue to hinder economic growth within the currency bloc.

European inflation has been confined within a narrow range since spring. In the short term, CPI is expected to slow due to energy prices.

Meanwhile, U.S. core inflation slowed from 3% to 2.6% in November, while consumer prices dropped from 3.1% to 2.7%. This trend has raised the probability of a Fed rate cut in March to 58%. Just a couple of days ago, derivatives gave the first month of spring a fifty-fifty chance. Simultaneously, the risks of an earlier resumption of the monetary easing cycle have increased to 29%, potentially in January.

Thus, anchoring inflation in the eurozone effectively means that the ECB has completed its cycle of monetary easing. The slowdown in U.S. consumer prices allows the Fed more leeway regarding further rate cuts. Despite the "hawks'" aspirations, the "doves" dominate within the FOMC. Their influence is likely to grow as the White House reshapes the committee's composition.

The divergence in monetary policy is a strong argument in favor of buying EUR/USD. Especially if the Federal Reserve rates drop by 100 basis points to 2.75%, as Christopher Waller suggests. I wouldn't be surprised if Waller's chances of becoming Fed Chair were suddenly boosted after his meeting with Donald Trump, which the market would likely welcome.

On the daily chart, EUR/USD tested the 1.176 pivot level. The first attempt by the bulls was unsuccessful, but they are not losing hope. Success in a second assault will enable the formation of long positions targeting 1.187. Selling can be reconsidered if the quotes for the main currency pair fall below the upper boundary of the fair-value range at 1.1725.

The material has been provided by InstaForex Company - www.instaforex.com