EUR/USD has shown a notable recovery on Monday, climbing over a cent from its two-week low set on Friday. This resurgence has pushed the pair back above the 1.0500 mark, primarily fueled by a significant weakening of the US Dollar (USD).
The US Dollar Index (DXY), which measures the dollar’s strength against a basket of currencies, experienced a sharp decline. It retreated from recent highs, dropping to around 106.50. This dollar depreciation is attributed to falling US Treasury yields across the yield curve and persistent concerns regarding potential US tariffs.
Tariff Tensions and Geopolitical Hopes
Trade policy is once again in the spotlight after President Trump’s announcement last week imposing 25% tariffs on imports from Canada and Mexico, set to take effect on March 4. Tariffs can have complex effects on currency markets. While they can contribute to inflation, potentially leading the Federal Reserve (Fed) to tighten monetary policy and strengthen the USD, prolonged trade disputes could also slow economic growth. This slowdown might then push the Fed towards a more dovish stance. For the Eurozone, any US tariffs on EU goods could weaken the Euro (EUR), putting downward pressure on the EUR/USD exchange rate.
Adding another layer of complexity, geopolitical factors re-emerged on Monday. Discussions around a possible peace agreement in the Russia-Ukraine conflict provided a boost to market sentiment and riskier assets. This positive development follows the widely reported strained meeting between Trump and Zelenskyy at the White House the previous week.
Central Banks in Focus: Diverging Paths for the Fed and ECB
The Federal Reserve recently decided to hold steady its policy rate, remaining in the 4.25%–4.50% range. This decision reflects the Fed’s assessment of a robust US economy, stable inflation, and a strong labor market. Fed Chair Jerome Powell has indicated that it is premature to consider interest rate cuts, citing ongoing inflationary pressures and solid employment data. Other Fed officials have echoed this sentiment, particularly noting the potential for trade disputes to further inflate consumer prices and complicate the inflation outlook.
In contrast, the European Central Bank (ECB) is widely anticipated to implement a 25 basis point cut to its main interest rate at their upcoming meeting on Thursday. This expected move is aimed at stimulating the Eurozone’s sluggish economic growth.
Following the ECB’s latest policy meeting, President Christine Lagarde has resisted calls for a more aggressive 50-basis-point rate reduction, emphasizing a data-dependent approach. Despite the uncertainties surrounding international trade, Lagarde expressed confidence that inflation will return to the ECB’s target by 2025, suggesting that any further monetary easing will be gradual and measured.
Short-Term EUR/USD Outlook
Currently, the EUR/USD pair is navigating a complex landscape shaped by evolving trade policies, contrasting approaches from central banks, the Eurozone’s weak growth, and ongoing political developments, particularly in Germany. Until greater clarity emerges regarding tariffs and the future policy direction of both the Fed and the ECB, the EUR/USD exchange rate is likely to remain within a defined trading range.
