Investors expected Jerome Powell to sound hawkish but hoped for a dovish shift. Being disappointed, they started selling off the EURUSD. The ECB members’ calls for decisiveness can’t change anything. Let us discuss the Forex outlook and make up a trading plan.
Monthly euro fundamental forecast
You are too late. The ECB members’ calls for active steps looked pale amid Jerome Powell’s claims that the Fed will continue raising rates until it makes sure the job is done. The European Central Bank doesn’t like the EURUSD crash, but investors are willing to sell the euro, being encouraged by the Fed. Energy shock forced hedge funds to increase euro shorts to the highest levels since March 2020, and they are going to sell further.
The ECB members’ calls for decisiveness are nothing more than a belated reaction to the fall of the EURUSD to a 20-year low, which leads to higher energy prices, accelerates inflation, and drives the euro-area economy into a recession. The Fed has been decisive for a long time, and the ECB is too late, encouraging the EURUSD bears. Isabel Schnabel claims that central banks must tighten monetary policy even into a recession to avert high prices in the future. However, Jerome Powell sounded much more impressive.
The Fed chairman, in his less than 10-minute speech, mentioned the word “inflation” 46 times and quoted Paul Volcker, his predecessor, who put the US economy through two recessions to press down the CPI. This was a speech against the dovish shift that the financial markets hoped for. At the end of July, they expected the federal funds rate to peak at 3.3%, and decline in 2023. However, as Cleveland Fed President Loretta Mester rightly pointed out, the Fed cannot afford to be misled by the idea that inflation has peaked. The Fed has to continue its job.
After Jerome Powell’s speech in Jackson Hole, investors are convinced that borrowing costs will rise to 3.75-4% and stay there for a very long time. High interest rates lead to rising unemployment and a slowdown in consumer spending and GDP, which negatively affects corporate profit forecasts and could return US stock indices to June lows. The US dollar gets preferences as a safe-haven asset. In addition, the idea of US exclusivity is still popular. So, the EURUSD drop towards 0.95 looks natural.
Investors do not react to the hawkish stance of the ECB officials as they believe aggressive monetary tightening will send the euro-area economy into a recession. The USA, on the contrary, can afford high interest rates. Yes, US GDP fell by 1.1% in two quarters, but gross national income grew by 1.6%. A serious divergency convinces that the economy is in a state of stagnation but not a recession.