EUR/USD slips as renewed Middle East tensions boost the Greenback
- EUR/USD weakens as fading US-Iran deal hopes boost demand for the US Dollar.
- Euro struggles despite hawkish ECB expectations as traders focus on broad US Dollar strength.
- Traders await Eurozone inflation data and key US labor market reports later this week.
EUR/USD comes under renewed selling pressure on Monday as initial optimism surrounding a potential US-Iran peace deal fades amid escalating tensions in the Middle East. At the time of writing, the pair trades around 1.1626, down nearly 0.30% on the day.
Iran’s semi-official Tasnim News Agency reported on Monday that Tehran has suspended message exchanges with Washington over Israel’s continued military operations in Lebanon against Hezbollah.
Meanwhile, Iran also accused the United States of violating the ceasefire after US Central Command (CENTCOM) said it carried out “self-defense strikes” on Iranian radar and drone facilities over the weekend. Iran’s Revolutionary Guard said on Monday they had targeted an air base used by US forces in retaliation for an attack on southern Iran.
Following the latest developments, the US Dollar (USD) and Oil prices extended their intraday rebound. The US Dollar Index (DXY), which tracks the Greenback’s value against a basket of six major currencies, trades around 99.20 after rebounding from a two-week low near 98.75 touched on Friday. West Texas Intermediate (WTI) Crude Oil is up more than 5%, trading around $92.50 at the time of writing.
The US Dollar is also drawing support from rising expectations that the Federal Reserve (Fed) may need to raise interest rates to counter Oil-driven inflationary pressures. According to the CME FedWatch Tool, markets are currently pricing in a 42% chance of a 25-basis-point (bps) rate hike at the December meeting.
Across the Atlantic, traders are fully pricing in an interest rate hike from the European Central Bank (ECB) later this month. However, the Euro (EUR) is struggling to capitalize on the hawkish expectations as price action remains largely driven by US Dollar dynamics. Higher Oil prices also pose a risk to economic growth in the Eurozone, which remains heavily dependent on imported energy.
On the data front, the S&P Global US Manufacturing Purchasing Managers Index (PMI) rose to 55.1 in May from 54.5 in April, while the ISM Manufacturing PMI climbed to 54.0, marking its highest reading since May 2022.
Traders now look ahead to preliminary Eurozone inflation data due on Tuesday and key US labor market data later this week, including the ADP Employment Change and Nonfarm Payrolls (NFP) report.
ECB FAQs
The European Central Bank (ECB) in Frankfurt, Germany, is the reserve bank for the Eurozone. The ECB sets interest rates and manages monetary policy for the region. The ECB primary mandate is to maintain price stability, which means keeping inflation at around 2%. Its primary tool for achieving this is by raising or lowering interest rates. Relatively high interest rates will usually result in a stronger Euro and vice versa. The ECB Governing Council makes monetary policy decisions at meetings held eight times a year. Decisions are made by heads of the Eurozone national banks and six permanent members, including the President of the ECB, Christine Lagarde.
In extreme situations, the European Central Bank can enact a policy tool called Quantitative Easing. QE is the process by which the ECB prints Euros and uses them to buy assets – usually government or corporate bonds – from banks and other financial institutions. QE usually results in a weaker Euro. QE is a last resort when simply lowering interest rates is unlikely to achieve the objective of price stability. The ECB used it during the Great Financial Crisis in 2009-11, in 2015 when inflation remained stubbornly low, as well as during the covid pandemic.
Quantitative tightening (QT) is the reverse of QE. It is undertaken after QE when an economic recovery is underway and inflation starts rising. Whilst in QE the European Central Bank (ECB) purchases government and corporate bonds from financial institutions to provide them with liquidity, in QT the ECB stops buying more bonds, and stops reinvesting the principal maturing on the bonds it already holds. It is usually positive (or bullish) for the Euro.
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