Firmer US Dollar with all eyes on the Federal Reserve and the European Central Bank

• A strong US labor market fueled demand for safety by the end of the week.
• The US Federal Reserve and the European Central Bank take centre stage.
• EUR/USD is poised to extend its slump in the upcoming days towards 1.0640.

The US Dollar turned north this past week, partially losing its pace on Thursday, as speculative interest took a break ahead of the United States (US) employment figures scheduled for Friday. On the contrary, the Euro remained on the back foot as the economic future remains uncertain. As a result, EUR/USD retreated below the 1.0800 mark, edging sharply lower for a second consecutive week.

The market mood was mostly sour throughout the week, further driving EUR/USD lower. Moody’s credit agency downgraded China's A1 debt rating from stable to negative, citing the increasing risks to growth and the property sector crisis on Tuesday, pushing stock markets down and backing demand for the safe-haven USD.

Data shows that the EU is not out of the woods

In the last few months, European macroeconomic figures indicated that the Eurozone could suffer a steep recession in the near future, with growth-related gauges reflecting continued economic contraction. And indeed, there were no fresh good news to change such a picture. The EU reported  Retail Sales were down 1.2% YoY in October, while the annualized Gross Domestic Product (GDP) was downwardly revised to 0.0% in Q3.

Meanwhile, German Industrial Production contracted by 3.5% YoY in October,  while Factory Orders were down by 7.3% in the same period.  On a positive note, the country confirmed November inflation by the Harmonized Index of Consumer Prices  (HICP) at 2.3% YoY, not far from the European Central Bank (ECB) target, but it is becoming evident the high cost the central bank is paying for taming inflation.

The aggressive monetary tightening, now on pause, has taken its toll on economic progress. The final effects are yet to be seen, and despite policymakers pledging to maintain rates higher for longer, a soon-to-come rate cut does not sound that crazy as the risk of a downturn increases month after month. Speculative interest continues to bet against the central bank, looking for the first rate cut in the EU in the second quarter of 2024.

United States resilience

Across the Atlantic, US data was more encouraging. The November ISM Service PMI resulted in 52.7, up from 51.8 in the previous month and indicating expansion in the sector for the eleventh consecutive month.

Meanwhile, employment-related figures fell short of showing a loosening labour market, something the US Federal Reserve (Fed) would welcome to help balance inflation and growth. The Job Openings and Labor Turnover Survey (JOLTS) showed the number of job openings on the last business day of October stood at 8.73 million,  down from 9.35 million in the previous month. Additionally, the ADP Survey on job creation showed the private sector added 103,000 new positions in November, missing expectations of 130,000. The Nonfarm Payrolls (NFP) report released on Friday overshadowed the positive figures. Markets turned risk-averse with a strong outcome, as the country added 199,000 new job positions in November, while the Unemployment Rate declined to 3.7%, both numbers beating expectations. The strong figures cooled rate-cut speculation ahead of the Fed’s meeting.

A tight labor market increases people's spending power and, hence, pushes inflation up. The contrary happens with a loosening sector, which would maintain the Fed in the on-hold path. It is worth noting at this point that the Fed is also on the higher-for-longer path, as officials have dismissed a potential rate cut multiple times in the first semester of 2024. Still, the tone has become more dovish in the latest appearances, fueling speculation the central bank is paving the way towards a monetary policy shift.

Central banks’ definitions coming up next

The Fed and the ECB will announce their last monetary policy decisions of the year next week and could provide investors with clues on whatever central banks are planning for the upcoming months.

The Federal Open Market Committee (FOMC) is expected to keep interest rates on hold in the upcoming December 12-13 meeting as the central bank juggles to take down inflation to its 2% goal while avoiding an economic recession. Ahead of the announcement, financial markets are looking for the first rate cut as soon as March 2024. How the decision affects such a date will set the tone for the USD in the next few months.

The ECB faces quite a different scenario ahead of its decision. On the one hand, it seems there is no clear consensus among the Governing Council. Hawks and doves are giving mixed hints on what’s next for the central bank, with some officials hinting at rate cuts and others indicating rate hikes are still on the table for 2024.

On the other hand, the economic setback in the Old Continent does not allow additional hikes without the associated risk of a steep recession. European policymakers are between a rock and a hard place, and most likely, they would opt to stand pat.

Additionally, investors will look for ECB President Christine Lagarde’s words on the Pandemic Emergency Purchase Programme  (PEPP). Not so long ago, Lagarde said the Government Council would discuss unwinding the programme in the “not too distant future,” and any comment on the matter could shake the Euro.

Ahead of central banks’ decisions, the US will publish the November Consumer Price Index (CPI), while by the end of the week, S&P Global will unveil the preliminary estimates of its December Services and Manufacturing PMIs for both economies. Inflation and growth figures will confirm or deny central bankers’ words, and all together, are set to rock financial markets as investors gear up for what they believe will be an exciting 2024.

EUR/USD technical outlook

From a technical point of view, the EUR/USD pair has pierced the 38.2% Fibonacci retracement of the 1.1275/1.0447 slump at 1.0763 with the NFP release, bottoming at 1.0723. Beforehand, the pair met sellers around the 61.8% retracement of the same rally, which means it could extend its slump in the upcoming days, particularly if it ends the day below 1.0760.

According to the weekly chart, the risk skews to the downside. Technical indicators turned south and currently stand within neutral levels but still point to a downward extension. At the same time, EUR/USD hovers around a bearish 20 Simple Moving Average (SMA), which converges with the aforementioned 38.2% Fibonacci level. Finally, the 100 SMA also heads south, currently at around 1.0650.

The EUR/USD pair is firmly bearish, according to the daily chart. The pair has fallen below all its moving averages, although only the 100 SMA presents a bearish slope, with the 20 SMA still heading north far above the current level. Finally, technical indicators extended their slides within negative levels, standing at fresh multi-week lows without signs of downward exhaustion.

A weekly close below the 1.0760 region will open the door for a slide towards 1.0700 initially en route to the 1.0650 region. Once below the latter and with central banks’ volatility in sight, the slump could extend down to the 1.0540 region.

Above 1.0800, the next resistance level is the 1.0860 area, followed by the 1.0920 price zone.