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Markets are acting as if a fight against inflation has been over. Investors believe in the Fed's 50-basis-point interest rate hike in December and a possible ceiling of borrowing costs below 5%. They also expect the US regulator to start easing monetary policy in late 2023. Thus, expectations of a dovish shift have pushed EUR/USD to 5-month highs. However, there is a sense of deja vu as the US dollar weakens.
When US core inflation fell from 6.5% in March to 5.9% in July, it might have seemed like the Fed had taken control of consumer price growth. However, the indicator rose to 6.3% in August and then to 6.6% in September. Investors realized that it was too early to rejoice.
The current situation is certainly different from those events. Goods prices are going down, but prices for services are rising. And as long as the labor market is red-hot, things will remain unchanged.
Dynamics of US inflation and its components
Strong data on retail sales is another argument in favor of the fact that the US economy is strong. As a result, the S&P 500 index reacts to strong macroeconomic statistics negatively as it allows the Fed to continue lifting interest rates, and vice versa.
In my opinion, the situation has still changed. By slowing down the pace of monetary policy tightening, the Fed has given dollar sellers the green light. However, the US economy is still strong, so there are two-way risks to the US dollar's further movement on Forex. In this situation, the greenback is likely to start trading sideways, while the EUR/USD dynamic will depend on the news from Europe.
In this regard, Christine Lagarde's comments on monetary policy have been rather mixed. On the one hand, she said that inflation in the euro zone was too high, the ECB would continue to hike interest rates, and even a recession alone would not be able to lower domestic demand enough to bring inflation back to its target level.
Euro area inflation dynamics
On the other hand, the head of the ECB noted that the regulator would discuss QT at the December policy meeting. The quantitative easing program is part of monetary tightening. Its implementation allows the central bank to reduce the growth rate of the deposit rate, which is a negative factor for the euro.
From a technical point of view, the 1-day EUR/USD chart shows that bears failed to break through an inside bar. As a result, the pair entered a sideways range. In this case, the best way to make a profit is to use short-term breakout strategies including repeated short positions on the euro on a breakout of the pivot point at 1.033 as well as long positions in the event of a successful test of resistance at 1.0405.
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