EURUSD Rebounds Following Fed’s Dovish Stance

15 Jul 2021

Against the backdrop of a high vaccination rate and relaxation of COVID-19 restrictions, the US economy is staging a strong recovery with major indices hitting all time high. The safe haven US dollar suffered initially from the market risk-on mood. The greenback has since strengthened amid the upbeat inflation data and uncertainties on global economy reopening with the delta variant still rampant globally.

With the rapid boom in consumer demand, the supply chain has met its bottleneck where supply struggles to catch up with the strong demand. This in turn, has driven up prices in parts of the economy and pressure is mounting for the Fed to tighten its monetary policy to curb the rising inflation.

According to data released by the US Bureau of Labor Statistics, the Consumer Price Index (CPI), which is an indicator of inflation, has beat market expectations every month since March. June CPI data released on Tuesday showed that consumer prices again rose very significantly and stronger than expected. Upon release of the upbeat data, the dollar enjoyed a boost to the upside with EURUSD dropping as much as 84 pips.

From the minutes of FOMC meeting held in June, the Fed acknowledges that while the inflation has been rising faster than they had expected, they see the current trend as transitory. The Fed members agreed that the economy has yet to meet the “substantial further progress” benchmark that they have set out for any move to reduce the pace of its bond purchases.

Following the release of the June inflation data, Fed Chairman Jerome Powell, in his testimony before Congress on Wednesday, revealed that the U.S. economy was “still a ways off” from levels that they wanted to see before tapering its monetary support. The Fed’s dovish stance had erased the greenback’s gains from Tuesday’s CPI data.

While the term “transitory” is not clearly defined, in order for the thesis to hold, the inflation should be on a downtrend going into 2022. Higher than expected inflation data will fuel market expectations for a brought-forward interest rate hike which will be bullish for the US dollar.

On the other hand, EURUSD weakness may also be attributed to the dovish tone by the ECB’s President Lagarde statement that the ECB has pledged to be “persistent” and will not repeat its past mistake of tightening policy prematurely.

EURUSD is currently under pressure with the pair headed to test its previous support around 1.17. MACD is in the negative region and displays bearish momentum. If the pair pierces through 1.17, we set our target at 1.16.

Key data to watch next week:

ECB Bank Lending Survey, ECB Interest Rate Decision, ECB Monetary Policy Statement and Press Conference, Markit PMI for US and Europe.


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