EUR/USD Forecast: Decoding Euro Weakness and The US Federal Reserve’s Firm Grip

Highlights:

• The EUR/USD faces the prospect of a ten-week decline.
• Economists project a dip in Eurozone services PMI from 47.9 to 47.4, spelling trouble for EUR/USD.
• The FOMC economic projections and interest rate decisions are poised as the primary catalysts for the week ahead.

Overview

The EUR/USD extended the losing streak to nine consecutive weeks in the week ending September 15. A positive start to the week saw the EUR/USD pair strike a Tuesday high of $1.07679 before sliding to a Thursday low of $1.06318. While recovering from the Thursday low, the EUR/USD ended the week down 0.36% to $1.06596.

Private Sector PMIs for September a Recession Depth Test

After a tumultuous week for the EUR, investors should focus on the macroeconomic environment.

Upward revisions to preliminary Eurozone inflation numbers would provide EUR/USD support on Tuesday. The markets are betting no further ECB rate hikes. Considering the macroeconomic environment, it looks like a safe bet.

However, central banks got inflation wrong the first time around and could have moved too aggressively to tame inflation or underestimated the stickiness.

On Wednesday, German producer prices also need consideration. A sharper fall in producer prices would signal an even weaker demand environment. While the markets have resigned to a German recession, it is hard to predict the severity of a slowdown.

Increased competition leads to falling producer prices. During economic stress, businesses reduce contract prices to secure new contracts, resulting in thinner profit margins. To maintain these margins, firms may cut costs, including labor. Cost cutting weakens the labor market, affecting consumer spending and reducing demand-driven inflation.

On Friday, preliminary private sector PMI numbers for France, Germany, and the Eurozone will give investors a clearer picture of the euro area economy.

The services sector has been the key to the Euro Area economy. However, the interest rate and inflation environment have impacted consumer spending power, directly affecting private consumption and the euro area economy. A deeper contraction across the euro area would raise the prospects of a prolonged Eurozone economic recession.

Economists forecast the Eurozone services PMI to fall from 47.9 to 47.4 in September. The EUR/USD would likely suffer at the prospect of a sustained economic slowdown.

Beyond the numbers, investors should monitor the ECB calendar for commentary throughout the week. Dire economic indicators could kickstart the debate on when the ECB would begin considering rate cuts.

US Federal Reserve in the Driving Seat

On Thursday, the EUR/USD responded to a dovish ECB rate hike. The US macroeconomic environment appears to be in a far better position. A hawkish Fed pause would leave rate hikes on the table. However, the FOMC economic projections will draw interest. Investors need to consider revisions to GDP, inflation and employment forecasts, and projections for the Federal Funds Rate.

In June, the Fed projected an unemployment rate of 4.1%, growth of 1.0%, and Core PCE inflation of 3.9% for 2023.

FOMC members will likely consider the current macroeconomic environment. The US unemployment rate is 3.8%, with Core PCE Inflation at 4.2%. Notably, the US economy expanded by 2.1% in the second quarter, and the Fed left interest rates at 5.5% compared with a projected Fed Funds Rate of 5.6%.

The key drivers for the week will be the FOMC interest rate decision, FOMC economic projections, and the Fed press conference.

However, initial jobless claims on Thursday and private sector PMIs on Friday need consideration. A spike in jobless claims and a contraction across the services sector could reignite fear of a hard landing.

Short Term Forecast

Economic divergence favors the dollar. However, weaker labor market figures and a service sector contraction could impact hopes of a US economic soft-landing. Upbeat economic indicators would leave the Fed ‘on watch’ and leave monetary policy divergence tilted toward the dollar.

EUR/USD Technical Indicators

Daily Chart

The EUR/USD held above the $1.06342 support level. Upward revisions to Eurozone inflation and a dovish Fed pause on interest rates would support a EUR/USD move to the $1.07635 resistance level.

However, a Fed pause on interest rates and hawkish FOMC economic projections would support a EUR/USD break below the $1.06342 support level. A break below the support level would give the bears a run at sub-$1.05500.

While private sector PMIs will provide direction on Friday, the Fed interest rate decision and projections will be the key drivers.

Considering the 14-Daily RSI at 34.32, the EUR/USD will likely return to $1.06 before entering oversold territory.

4-Hourly Chart

The EUR/USD remains below the 50-day and 200-day EMAs, reaffirming bearish price signals.

A EUR/USD break above the 50-day EMA would support a EUR/USD move toward the $1.07635 resistance level. However, failure to break above the 50-day EMA would leave the EUR/USD in defensive mode.

A break below the $1.06342 support level would give the EUR/USD bears a run at $1.05500.

The 14-4H RSI at 39.36 signals a EUR/USD fall to $1.06 before entering oversold territory.