The EURUSD pair saw a slight decline as the US dollar rebounded, following the release of strong US GDP data for the second quarter. The pair retreated from its highs near 1.0860 during the US session on Thursday, after GDP data showed that the US economy grew by 2.8%, exceeding expectations of 2.0% and the previous growth of 1.4%.
This data boosted the value of the US Dollar Index (DXY), which rose to a weekly high of 104.50, reflecting the dollar’s strength against other major currencies. Despite strong growth, concerns about price pressures eased with the GDP price index, a key gauge measuring changes in the prices of goods and services produced, falling to 2.3%, compared to expectations of 2.6% and the previous reading of 3.1%. This may support expectations of interest rate cuts by the Federal Reserve.
On the other hand, durable goods orders for June witnessed a noticeable decline, as new orders decreased by 6.6%, contrary to expectations that indicated an increase of 0.3% compared to May’s reading of 0.1%.
Anticipation now turns to the June Personal Consumption Expenditures (PCE) price index data, due to be published on Friday, as core PCE inflation, considered the Fed’s preferred measure, will reflect how well expectations align with interest rate cuts expected in September. Expectations are that core inflation may slow to 2.5% from May’s reading of 2.6%, with flat monthly growth of 0.1%. Inflationary pressures slowing in line with expectations or at a faster pace may pressure the US dollar, strengthening expectations of interest rate cuts. Conversely, flat or higher-than-expected inflation may prompt traders to reduce bets on an interest rate cut in September.
EURUSD gains decline amid uncertainty for the euro’s outlook
The EURUSD pair saw its gains reverse after hitting a high near the 1.0850 level during the European session on Thursday. This decline comes in light of continued uncertainty about the future of the euro due to strong expectations of further interest rate cuts by the European Central Bank (ECB) and growing concerns about the economic outlook in Germany.
Expectations indicate that the European Central Bank may cut interest rates two additional times this year, given the continuing inflationary pressures on the price level throughout the year, with a return to the bank’s target set in 2025. Some ECB officials consider that current market expectations for a cut Interest rates are favorable.
At the same time, a sharp decline in economic activity in the euro zone, especially in Germany, the bloc’s largest economy, has fueled expectations of further interest rate cuts this year to stimulate economic growth. The German Composite Purchasing Managers’ Index (PMI) posted an unexpected decline in July, with the Hamburg Commercial Bank (HCOB) reporting that the index suddenly fell to 48.7, the lowest reading in four months. Although the German economy survived recession last year, it experienced a contraction of 0.3%.
Weak economic activity in Germany also contributed to the deterioration of the business sentiment index, as the German Ifo business climate index unexpectedly fell to 87 in July, after expectations indicated it would rise to 88.9. In the same period, the expectations index suddenly fell to 86.9 from an estimate of 89.0.
In response to these challenges, the German government has promised tax breaks for companies and households to boost consumption. German Finance Minister Christian Lindner announced plans to reduce the tax burden by 30 billion euros in 2025 and 2026, in an attempt to support the economy through increased spending and investment.
USDJPY declines: impact of yield spreads and volatility
The USDJPY pair fell to its lowest level since early May, as a result of narrowing US-Japanese two-year bond spreads, coupled with a sharp rise in financial market volatility.
Prospects for a more aggressive Bank of Japan (BOJ) policy tightening, compared to expectations of monetary policy easing by the Fed, have pushed yield spreads between US and Japanese bonds to their lowest levels since May 2023. At the same time, higher currency market volatility has contributed to increased… The cost of shorting the Japanese yen, resulting in a rapid unwinding of yen trades. Implied Japanese Yen volatility for one month and one week also reached its highest level in more than two months.
Moreover, the global stock market sell-off, especially in the technology sector, pushed the VIX index to a three-month high, supporting safe-haven currencies such as the Japanese yen and the Swiss franc.
We expect the USDJPY pair to remain above its 200-day moving average, as the Bank of Japan is unlikely to tighten monetary policy further than currently expected. Core inflation in Japan is heading lower, and negative real monetary earnings confirm that consumer spending will remain weak.
Since last Wednesday, the US dollar has risen steadily against major currencies, although the reasons behind this move are not clear. In terms of monetary policy, nothing has changed as the market still expects at least two rate cuts by the end of the year, with the possibility of a successive cut in November.
Data continues to indicate that the US economy remains resilient, with inflation gradually falling towards target, supporting a soft landing scenario and boosting risk sentiment.
Meanwhile, the Japanese yen made notable gains against all major currencies.
