Euro: Softer versus Dollar as ECB tightening meets French risks – MUFG

MUFG’s Lee Hardman reports the Euro (EUR) is trading on a softer footing against the US Dollar, with EUR/USD near the bottom of its 1.1400–1.1800 range. Markets expect three to four more European Central Bank (ECB) hikes, supported by ECB Chief Economist Lane’s view of a second wave of energy-driven inflation. French fiscal and political risks are increasingly priced into wider spreads and potential rating downgrades.

EUR pressured by Dollar and French spreads

"The euro is continuing to trade on a softer footing against the US dollar in the near-term hitting a low overnight at 1.1459. The pair is moving back towards the bottom of the 1.1400 to 1.1800 trading range that has been in place over the past year since last week’s FOMC meeting. Market expectations for an extended ECB tightening cycle are helping to offset the hawkish repricing of Fed rate hike expectations."

"The euro-zone rate market also expects the ECB to deliver three to four more hikes in the year, with over a 50:50 probability of another back-to-back hike in October priced in. ECB Chief Economist Lane has told Le Temps newspaper that “we are now witnessing a second wave of price rises, not only in oil but also in gas. We believe this second wave of energy price rises should lead to higher and more persistent inflation, before a decline toward our target from mid-2027 onwards”."

"He believes “the second wave of energy price rises we are witnessing today should exert upward pressure on food prices, on energy in the broader sense including electricity and on goods in general”. But remains optimistic that “pressure on services, on the other hand, should remain contained”. He expects the euro-zone economy to continue to grow at a steady but moderate pace, provided the energy price shock does not intensify”."

"Building fiscal and political risks in Europe remain in focus but so far there appears to have been limited negative spillover impact on the euro. Bigger moves have happened elsewhere with the yield spread between French and German 10-year government bond widening above 100 bps this month. France was downgraded by one of the minor rating agencies, Scope Ratings at the end of last week who cited concern over a “sustained deterioration in the fiscal outlook, characterized by rising general government debt, persistently high fiscal deficits and limited progress on structural reforms”."

(This article was created with the help of an Artificial Intelligence tool and reviewed by an editor. Know more.)