Written by: Rania Gule, Senior Market Analyst at XS.com – MENA
The EUR/USD pair continues its decline amid selling pressure driven by slowing inflation in the six German states, reinforcing expectations that the European Central Bank (ECB) will maintain its dovish monetary policy stance. The pair reached the 1.0370 level during the European trading session on Friday, and with the euro weakening against most major currencies, market conviction is growing that inflation in the eurozone is on a sustainable downward trajectory toward the ECB’s 2% target.
ECB President Christine Lagarde’s comments on Thursday further reinforced this outlook, as she expressed confidence in the bank’s ability to achieve price stability this year. This optimism, coupled with ECB policymaker Madis Müller’s statement that inflation could approach 2% by mid-year, suggests that the central bank will not hesitate to cut interest rates if inflationary pressures continue to weaken. However, I believe the ECB remains cautious, as Lagarde emphasized that decisions will be made on a meeting-by-meeting basis, depending on incoming data, leaving room for multiple possibilities.
The anticipation of monetary policy easing is leading investors to reassess their euro positions, particularly as the U.S. dollar remains strong. Former U.S. President Donald Trump’s threats to impose high tariffs on BRICS nations and U.S. trade partners have boosted the dollar’s appeal as a safe-haven asset, further pressuring the euro. Trump has explicitly stated that he will use trade policy as a tool to protect the U.S. dollar from any threats, and in my view, this creates market uncertainty and drives investors toward the greenback.
Meanwhile, the Federal Reserve’s monetary policy remains another key factor weighing on the EUR/USD pair. The Fed has kept interest rates unchanged but has indicated that it will not rush to cut rates unless there is “meaningful progress” in reducing inflation or signs of labour market weakness. This hawkish stance continues to support the dollar, particularly if the U.S. Personal Consumption Expenditures (PCE) Price Index data exceeds expectations. Any upside surprise in U.S. inflation data could strengthen the case for keeping interest rates elevated for longer, adding further pressure on the euro.
From my perspective, investors are now awaiting the eurozone Consumer Price Index (CPI) data for January, which is expected to confirm a continued decline in inflation. However, the impact of this data on euro price action may be limited, as markets have already priced in the likelihood of ECB rate cuts. On the other hand, the dollar remains highly sensitive to U.S. inflation figures, meaning that any surprises in the PCE data could drive EUR/USD further downward.
Overall, I believe the outlook for the euro remains weak against the dollar, given the ongoing divergence in monetary policies between the Fed and the ECB. While markets are increasingly expecting ECB rate cuts, the Fed remains firm in its stance, making the dollar more attractive relative to the euro. As a result, the bearish trend in EUR/USD may persist in the near term, with the potential for further downside if U.S. economic data continues to show resilience and the ECB maintains its cautious tone.
Ultimately, the key question remains: will the ECB stay on its current dovish course, or will it be forced to reconsider if economic data improves? Given the current developments, it appears that the ECB will maintain its cautious approach, keeping pressure on the euro against the dollar—especially if U.S. data continues to highlight economic strength.