- Fed signals no need to accelerate rate hikes
- The markets see the end of the cycle on the horizon
- Undermines USD support
- But the euro will remain under pressure as the eurozone faces recession
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The euro rallied against the dollar and cemented a recent rally from below parity levels after the Federal Reserve announced a second straight 75 basis point hike in the federal funds target range at 2, 25-2.50%.
The decision was expected and thus the foreign currency movements were more of a reaction to Fed directives that while further interest rate hikes were to come, there were no plans to accelerate the rate at which they are delivered.
There was also no need to increase the total number of rides to be delivered.
“In the forex markets, this weighed heavily on the US dollar, with GBP/USD jumping more than a cent towards $1.22 overnight, almost five cents higher than its low. EUR/USD recovered $1.02,” said Western Union analyst George Vessey. .
The euro-to-dollar (EUR/USD) exchange rate rose 0.87% on Wednesday, with the gains largely coming on the heels of the Fed’s decision.
It is quoted at 1.0200 at the time of writing as it maintains levels above parity in the price action, which is in line with what is expected in our pre-Fed coverage:
Above: EUR/USD at four-hour intervals, showing consolidation above parity.
At the news conference following the decision, Fed Chairman Jerome Powell said another “unusually large” interest rate hike may be warranted at the next FOMC meeting in September, but he also said the economy was slowing, noting that “recent spending and production indicators have softened.” .
Markets interpret this as suggesting that the end of the rate hike cycle is indeed on the horizon.
“His comments raised hopes that the Fed may soon be able to reduce the magnitude of future rate hikes,” said Mark Haefele, chief investment officer of Global Wealth Management at UBS AG.
“Powell’s comments added momentum to a market rebound that was already underway,” Haefele adds.
Although Powell said further tightening was “in the works,” he also said the time for clear forward guidance was over, commenting that the Fed will go “meeting by meeting” and rely on incoming data.
The Fed is therefore officially abandoning its forward guidance policy, just as the Bank of England did in June and the European Central Bank in July.
“This ending of specific forward guidance is likely in response to the roller coaster ride of a run-up to the FOMC meeting in June, where previously provided guidance disappeared as the committee reacted to last-minute, hotter-than-expected data,” says economist Ellie Henderson at Investec.
As a result, incoming data is likely to be greater than ever, which means increased exchange rate volatility around the release of monthly employment, inflation and economic growth data.
Further signs of a slowing US economy will likely further reinforce the idea that the peak of the up cycle is only a matter of months away, potentially robbing the dollar of any bullish momentum.
On this basis, the bottom of the euro-dollar decline could be reached, but the euro side of the equation must of course also be taken into account.
The euro zone is heading for an economic recession as Russia cuts gas supplies in response to Europe’s support for Ukraine in the ongoing war.
With the Nord Stream 1 gas pipeline operating at only 20% capacity, Germany will not be able to fill its storage facilities before winter and so rationing is likely.
This means German industry will be operating well below capacity and growth will reverse over the winter months.
The extent of the damage will determine how far the euro will go.
So, while the downward pressure on EUR/USD eases on the USD side, it is on the EUR side that any additional weight will diminish.