Euro Retreats as U.S. Inflation Lifts Fed Hike Bets

Key Moments

EUR/USD Under Pressure as Fed Outlook Turns More Hawkish

The Euro (EUR) is weakening against the US Dollar (USD) in Monday’s European trade, with EUR/USD down 0.28% and trading near 1.1565. The pair is extending losses as market participants price in a more hawkish stance from the Federal Reserve following the latest United States (US) inflation figures for August.

Investors have become more confident that the Fed could opt for further policy tightening after the release of what has been described as “sticky” Consumer Price Index (CPI) data. The move in rates expectations is weighing on the Euro and supporting the Greenback.

U.S. Inflation Data Reinforce September Fed Hike Bets

The latest CPI report, published on Friday, showed that headline inflation remained unchanged at 3.4% year-on-year (YoY), in line with forecasts. Core CPI, which strips out food and energy components, eased slightly to 2.4% from 2.5% in July.

On a month-on-month basis, however, inflation accelerated. Headline CPI rose 0.4%, matching expectations and picking up from the prior 0.1% reading. Core CPI advanced 0.3%, exceeding both the previous 0.2% print and market projections.

The stronger monthly inflation profile has further fueled expectations that the Federal Reserve could adopt a more hawkish tone at its September policy meeting. These expectations had already been building after the hotter-than-anticipated US Producer Price Index (PPI) data for August released last week.

ECB Moves Rates but Offers No Policy Outlook

On the Euro side, the European Central Bank (ECB) raised its policy rates last week as widely anticipated. However, policymakers did not provide any substantive commentary on the likely trajectory of interest rates from here, leaving markets without clear forward guidance.

“Discussion was focused on today’s decision, did not debate future rate path,” ECB President Christine Lagarde said at the press conference. She added, “Can’t anticipate what will be the next move.”

The absence of detailed guidance from the ECB is standing in contrast to the increasingly hawkish expectations surrounding the Federal Reserve and is contributing to the downside pressure on EUR/USD.

EUR/USD Technical Picture: Bearish Bias Persists

On the daily chart, EUR/USD is trading around 1.1565 and maintains a mildly bearish short-term outlook, as it remains below the 20-period exponential moving average (EMA) at 1.1602. Trading under this short-term reference level suggests that upside attempts are facing increasing resistance, while the Relative Strength Index (RSI) at 45 points to waning bullish momentum rather than oversold conditions.

On the upside, the 20-period EMA at 1.1602 serves as the first important resistance. A daily close above this level would be required to alleviate current selling pressure and potentially reopen scope for a move toward higher levels. On the downside, failure to hold the nearby support at 1.1560 could expose the pair to the psychological threshold at 1.1500.

Federal Reserve: Structure and Policy Tools

Monetary policy in the United States is set by the Federal Reserve (Fed), which operates under a dual mandate of maintaining price stability and promoting maximum employment. The primary instrument to pursue these objectives is the adjustment of benchmark interest rates.

When inflation rises above the Fed’s 2% target and price pressures become excessive, policymakers typically respond by raising interest rates. Higher borrowing costs tend to support the US Dollar (USD), as they can make US assets more attractive to global investors. Conversely, when inflation is below target or the Unemployment Rate is elevated, the Fed may lower interest rates to stimulate economic activity, which generally weighs on the Greenback.

Fed Meetings and Composition of the FOMC

The Federal Open Market Committee (FOMC) meets eight times per year to evaluate economic conditions and decide on monetary policy. The committee is composed of twelve Fed officials: the seven members of the Board of Governors, the president of the Federal Reserve Bank of New York, and four of the remaining eleven regional Reserve Bank presidents, who rotate annually.

Quantitative Easing and Its Impact on the Dollar

In exceptional circumstances, the Federal Reserve may implement Quantitative Easing (QE) to increase the flow of credit when the financial system is under severe strain. QE is a non-standard policy tool typically deployed during crises or periods of very low inflation.

Under QE, the Fed creates additional Dollars and uses them to purchase high-grade bonds from financial institutions. This approach was employed during the Great Financial Crisis in 2008. By expanding the supply of Dollars and lowering longer-term yields, QE generally puts downward pressure on the value of the US Dollar.

Quantitative Tightening and the Dollar

Quantitative Tightening (QT) is effectively the opposite of QE. Under QT, the Federal Reserve stops purchasing bonds and allows its existing bond holdings to mature without reinvesting the principal into new securities. This process typically reduces liquidity compared with QE and is usually supportive of the US Dollar’s value.