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EURUSD close to lows: ECB-Fed policy divergence and market outlook

eurusd analysis, forex trading

The EURUSD currency pair is hovering close to its recent low levels, marked around 1.0800. This is despite the release of better-than-expected Ifo business climate data from Germany, which theoretically should have countered the impact of yesterday's weak Purchasing Managers' Index (PMI) data for the manufacturing sector. Additionally, there's a noticeable decrease in the yields of U.S. Treasury bonds, with the 10-year yields falling to 4.22 percent.

However, it seems the foreign exchange market is currently more influenced by the monetary policy outlook. Market participants are perceiving the European Central Bank (ECB) as being more inclined towards a dovish stance compared to the U.S. Federal Reserve (Fed).

This sentiment is further underscored by the significant drop in the yields of German 10-year bunds, which have declined to 2.32 percent. As a result, the yield spread between German and U.S. bonds has widened to minus 189 basis points, reflecting a divergence in the monetary policy outlook between the ECB and the Fed.

A key factor influencing market sentiment is a recent statement from Joachim Nagel, the head of Germany's Bundesbank, who has traditionally held a hawkish stance. Nagel's comments align with those from other ECB officials, suggesting that interest rate cuts are likely to occur before the summer.

This development has led the market to anticipate a higher probability of monetary easing by the ECB. There is now a 73 percent chance being priced in for a rate cut by the ECB as early as June. Additionally, the market is expecting almost four rate cuts by the ECB by the end of the year, in contrast to the three rate cuts anticipated from the Fed.

This shift in expectation reflects a significant change in the market's perception of the ECB's policy trajectory, indicating a more aggressive approach to easing monetary policy compared to the Fed.

The future direction of the EURUSD pair, particularly whether it will breach key support levels around 1.0790 to 1.0800, appears to hinge more on broader global market sentiment rather than just regional economic data or central bank policies.

This sentiment is likely to be influenced by how much the market fears a potential 'hard landing' scenario in the coming months. A 'hard landing' refers to a situation where an economy rapidly shifts from growth to recession, often as a result of tight monetary policies. Such fears, if they become more prevalent in the mainstream financial narrative, could have a significant impact on currency movements, including the EURUSD pair.

An important factor that could influence global market sentiment and, by extension, the EURUSD pair, is the performance of the U.S. stock market, particularly the Nasdaq. So far, the American stock market has maintained its strength.

However, there are notable challenges in achieving a clear breakout to new highs in the Nasdaq futures. This struggle reflects underlying uncertainties and could be a bellwether for broader market confidence.

If the EURUSD pair breaks through the 1.0795 support level, the next level of support is expected around 1.0770. This level represents a key line in the pair's upward trend, and its breach could signal a more significant shift in market sentiment and the potential for further declines in the EURUSD exchange rate.

eurusd analysis, forex trading
EUR/USD daily chart, MetaTrader, 23.03.2024



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