Amid a week when risk aversion dominated financial markets, the dollar dropped contrary to popular belief. On Tuesday, the American dollar hit fresh 2021 highs against the shared currency, with EUR/USD decreasing to as low as 1.1185 on Wednesday. Participants in the market were concerned about stubbornly high inflation over the first half of the week, anticipating possible anti-inflationary measures from central banks – such as reducing QE and raising interest rates – which they may need to take.
Risk-off is supported by uncertainty
Macroeconomic data backed up the worries, as November Markit PMIs indicated that in the EU, the upturn was accompanied by a significant boost in inflationary pressures during the month, with costs and selling prices increasing at record rates. At the same time, the Personal Consumption Expenditures Index’s core reading rose to 4.1 percent in 2017, which was the highest level in three decades. The Federal Reserve’s preferred PCE inflation measure is based on consumer price index (CPI) inflation.
However, policymakers have been highly cautious; the Fed’s December meeting minutes released on Wednesday indicated that many participants thought that higher prices would become more permanent and that the central bank should be ready to taper more if necessary.
The European Central Bank Monetary Policy Accounts, on the other hand, suggest that the ECB is not in a hurry to alter its monetary policy. The paper stated that purchases under the Pandemic Emergency Purchase Programme (PEPP) would be completed by March 2022, and monetary policy decisions must be data-driven.
Market participants are concerned that central bankers are chasing inflation and that if policymakers do not act quickly enough, the economic downturn will be severe.
An unexpected downturn in the pandemic development
On Thursday, the United States marked Thanksgiving, keeping all of its stock exchanges closed, keeping major pairs within comfortable ranges and the dollar near its multi-month highs. The market’s momentum dived late on Thursday when word leaked that a new coronavirus variant discovered in South Africa has a spike protein that is “dramatically different” from the one used in vaccines. Raising concerns, it would escape the immune response, according to Reuters.
On Friday, the EUR/USD pair rose to 1.1294 and aims to end the week a few pips below that high. The announcement struck as Europe struggled to control a fresh outbreak of disease, and while several governments enacted strict limitations to limit its spread. The market was nervous when the DJIA opened, with Wall Street futures plummeting by almost 800 points before the start of trading. Fears of a deeper recession in economic recovery drove investor anxiety. On the other side, US Treasury yields plummeted after the 10-year note rose to 1.50% on Monday and flirted with 1.70% throughout the week.
Uncertainty over central banks’ action and how the epidemic will continue to impact economies are likely to keep markets in risk-off mode next week, as both are expected to have a long-term adverse effect on economic growth.
The EU will release the preliminary estimate of November inflation figures with the Core Consumer Price Index expected to be 1.9% YoY from 2% in the previous month. They’ll reveal European inflation rates during the first week of December. The October retail sales figures will be released by Germany, while the November PMI readings for the European Union will appear on Markit’s website.
In the United States, attention will be focused on the November ISM Manufacturing PMIs and employment numbers, released on Friday. In October, the US added 531,000 new jobs for an overall gain of 7.6 million jobs since January 2009, when the recession began (according to available data). The Federal Reserve has hiked interest rates three times this year alone.
EUR/USD technical outlook
The EUR/USD pair has cut its weekly losses, trading just above the 1.1300 mark. After breaking the neckline at 1.1703, the pair has completed a double top and dropped roughly 550 pips. If the pair recovers above the 1.1470 price zone, it could proceed to the later stages of its decline.