Euro rallying thanks to Dollar weakness – soon trend reversal thanks to creepy data?

The charts are clear. Since October 10th, the Euro has been well on its way up against the US Dollar. And the US Dollar as a whole is clearly falling. This can be seen very clearly in the US Dollar Index, a currency basket of the US Dollar against all major currencies such as the Euro, British Pound, Swiss Franc, Yen, etc. The US Dollar Index is a good example of this. At 1.1154, Euro vs. US Dollar has currently reached its highest level since the end of August. So has the market priced in the fact that there is no potential or relatively little potential for further rate cuts in Euroland? And is the currency market focusing more on the USA, where the Fed could initiate further rate cuts?

Euro strength thanks to falling US interest rates

With a current 89.3% probability, the Fed will cut interest rates next week. And will further interest rate cuts follow in the coming quarters? Quite possible. This and the recent strength in the British Pound have caused the US Dollar Index to drop significantly from 98.75 to 97.08 index points since October 10th. The following chart shows the comparison of the US Dollar Index (red) against the Euro vs. the US Dollar (blue) since February. We can clearly see the development of the last few days.

Deceptive calm in Euroland?

The market has been pricing in for weeks now that the ECB will launch its new bond purchase program in November and further lower the deposit rate. However, is that already the case? Under the new head of the ECB, Christine Lagarde, the ECB will launch the programme announced under Mario Draghi in November. And nothing more is possible? Let’s look back a few weeks. On 12th of September the ECB made its decision for further easing. The inflation rate for the Eurozone was still 1.0%, which was already weak. And what about now? At the beginning of October the data came in at 0.9%. Only last week they were corrected downwards by Eurostat to 0.8%. So inflation lost a further 0.2% percentage points before the ECB could even begin its new easing.

And now we would like to mention on top: In the last weeks the German price data got worse and worse. Wholesale prices and import prices in Germany have been in the deflationary range for months now. This morning, German producer prices also slipped into the negative. This means that all three leading indicators for German consumer prices are showing declining figures. According to all human judgement, German consumer prices are therefore likely to show even lower growth rates in the near future. This should drag down the overall rate at the Eurozone level. After all, the German values have a damn strong influence because Germany is the largest economy.

ECB scenario

So is it in principle conceivable or possible that the ECB will perhaps make initial statements in one, two or three months that it might be possible to add to the loosening in terms of bond purchases and/or interest rates in order to provide further impetus? Whether these measures will have any effect at all on price stimulation may be doubted. But the central banks blindly swear by their ability to influence prices. For months now, energy prices have been showing that they are the real driver of overall prices. But the ECB must insist that it can make a difference.

So is it possible that in a few weeks or months the foreign exchange market will come up with the idea of focusing away from the Fed and on the ECB again? This could create more downward room for manoeuvre. That could weaken the Euro! Of course, this is just a scenario, and it doesn’t have to happen that way. Whether the inflation rate in the Eurozone really continues to fall is not guaranteed. After all, food prices could suddenly put a significant downward pressure on energy prices and save the cut. Or other countries in the Eurozone could show significantly better price developments than Germany. But the scenario of a further easing by the ECB is quite conceivable. And with it a renewed weakness of the Euro. Of course, we do not know how and when this will happen. As forex traders, however, you could keep this scenario in mind.

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