Euro Slips as Dollar Gains on Energy Inflation Fears

Key Moments

EUR/USD Under Pressure as Dollar Finds Support

EUR/USD continues to retreat, posting a third straight day of declines and trading near 1.1540 during Thursday’s Asian session. The pair remains under pressure as the US Dollar (USD) stays firm, supported by a backdrop of rising energy prices that are intensifying inflation concerns and dampening prospects for imminent Federal Reserve (Fed) rate cuts.

Energy Markets and Geopolitical Tensions

Gains in the US Dollar are underpinned by higher crude prices. WTI has advanced as supply concerns linked to the Iran conflict have more than offset coordinated releases of emergency reserves by major economies. The tighter supply narrative is feeding into market worries about renewed inflationary pressures.

US Inflation Data Reinforces Steady Fed Outlook

The February US Consumer Price Index (CPI), released on Wednesday, showed headline inflation increasing 0.3% month-over-month and 2.4% year-over-year, broadly matching market expectations. Core CPI, which strips out food and energy, rose 0.2% on the month and 2.5% on the year.

These relatively contained figures eased concerns about an abrupt acceleration in inflation and bolstered expectations that the Fed may leave interest rates unchanged in the near term. Market observers point out that the latest CPI print does not yet fully incorporate the recent jump in oil prices stemming from geopolitical developments. Investors are now looking ahead to US Personal Consumption Expenditures (PCE) data due on Friday.

Euro Area Rates Sensitive to Energy Dynamics

Michiel Tukker and Benjamin Schroeder of ING Group note that Euro (EUR) rates remain particularly responsive to movements in energy prices, with markets still factoring in potential European Central Bank (ECB) rate hikes in 2026. According to their assessment, a decline in energy prices could remove expectations for future ECB tightening and push 2-year yields lower. In contrast, a period of persistently elevated energy costs could initially steepen the euro swap curve before eventually weighing on longer-maturity rates.

ECB Officials Flag Ongoing Inflation Risks

Isabel Schnabel, a member of the ECB’s Executive Board, emphasized that policymakers need to keep a close watch on ongoing energy price shocks and remain vigilant regarding upside inflation risks in Europe. In a similar vein, Joachim Nagel, who sits on the ECB Governing Council and heads the Deutsche Bundesbank, signaled that the ECB is prepared to respond if elevated energy prices related to the Iran war translate into persistently higher inflation in the Eurozone.

Euro: Structure, Policy, and Key Drivers

What is the Euro?

The Euro is the currency for the 20 European Union countries that belong to the Eurozone. It is the second most heavily traded currency in the world behind the US Dollar. In 2022, it accounted for 31% of all foreign exchange transactions, with an average daily turnover of over $2.2 trillion a day. EUR/USD is the most heavily traded currency pair in the world, accounting for an estimated 30% of all transactions, followed by EUR/JPY (4%), EUR/GBP (3%), and EUR/AUD (2%).

What is the ECB and how does it impact the Euro?

The European Central Bank (ECB) in Frankfurt, Germany, is the reserve bank for the Eurozone. The ECB sets interest rates and manages monetary policy. The ECB’s primary mandate is to maintain price stability, which means either controlling inflation or stimulating growth. Its primary tool is the raising or lowering of interest rates. Relatively high interest rates – or the expectation of higher rates – will usually benefit the 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.

How does inflation data impact the value of the Euro?

Eurozone inflation data, measured by the Harmonized Index of Consumer Prices (HICP), is an important econometric for the Euro. If inflation rises more than expected, especially if above the ECB’s 2% target, it obliges the ECB to raise interest rates to bring it back under control. Relatively high interest rates compared to its counterparts will usually benefit the Euro, as it makes the region more attractive as a place for global investors to park their money.

How does economic data influence the value of the Euro?

Data releases gauge the health of the economy and can impact on the Euro. Indicators such as GDP, Manufacturing and Services PMIs, employment, and consumer sentiment surveys can all influence the direction of the single currency. A strong economy is good for the Euro. Not only does it attract more foreign investment but it may encourage the ECB to put up interest rates, which will directly strengthen the Euro. Otherwise, if economic data is weak, the Euro is likely to fall. Economic data for the four largest economies in the euro area (Germany, France, Italy, and Spain) are especially significant, as they account for 75% of the Eurozone’s economy.

How does the Trade Balance impact the Euro?

Another significant data release for the Euro is the Trade Balance. This indicator measures the difference between what a country earns from its exports and what it spends on imports over a given period. If a country produces highly sought after exports then its currency will gain in value purely from the extra demand created from foreign buyers seeking to purchase these goods. Therefore, a positive net Trade Balance strengthens a currency and vice versa for a negative balance.