Fed-dependent

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The macro point

Here we are: the ECB is finally about to start its rate-cutting cycle. We are counting on a 25 basis point cut this Thursday. This is already priced into the foreign exchange market. The key issue is how many more rate cuts are expected in 2024. Spoiler: the ECB is likely to remain rather cautious on this topic. Finally! The big day is approaching. This Thursday, the European Central Bank (ECB) will initiate the rate-cutting process. Until a few weeks ago, there were still questions about the ECB's timing. Historically, the central bank has never cut rates before the U.S. Federal Reserve (Fed). But the situation has changed. Growth is stagnating in the eurozone, while across the Atlantic, the persistence of inflationary pressures shows that aggregate demand is still very dynamic. The ECB cannot afford to wait any longer to support the eurozone economy. However, this support will be limited initially. The central bank is expected to implement a cut of only 25 basis points on its main policy rate. More cuts are coming. The money market is counting on two to three more cuts this year, and a similar pace in 2025. This aligns with our expectations. The ECB will certainly reiterate that it is 'data-dependent' this Thursday. In practice, it is unlikely to commit now to cutting rates in July. The governor of the Bank of France, who is also a member of the ECB's Governing Council, is in favor of two consecutive cuts. But there isn't a consensus yet. Some governors, a minority, wish to ensure that inflationary pressures resulting from wage increases negotiated in several eurozone countries (particularly in Germany) do not cause lasting negative effects. More than the rate-cutting pace this year, it is the euro's evolution that concerns us. The ECB may stress that it is not 'Fed-dependent,' but if it cuts rates by 50 or even 75 basis points this year while the Fed does not change rates, expect some volatility on the EUR/USD pair. The exchange rate issue was mentioned by the governor of the Austrian central bank last week. He supports a rate cut in June, confirms that the ECB is 'data-dependent,' but acknowledges that one cannot ignore the rate differential that will inevitably widen on both sides of the Atlantic. Logically, this should lead to a depreciation of the euro against the dollar, which could increase imported inflation in the eurozone. We estimate that the EUR/USD pair needs to be between 1.05 and 1.03 for the exchange rate to become a real headache for the ECB. We're not there yet. On the contrary, the euro tends to appreciate against the greenback. How can this be explained? - Profit-taking on the dollar after a very good first quarter - Visibility of monetary policy in the eurozone in the short term - Incoming capital flows being redirected into the European stock market in search of undervalued companies. This is a phenomenon we have observed for a month, which in our opinion, largely explains the rise of the euro. But it is unlikely to last. It is mainly a tactical (opportunistic) positioning by hedge funds and asset managers. In the medium term, growth in the stock market is more in the United States than in the eurozone. - Some good economic news on the manufacturing front in the eurozone. Unfortunately for the single currency, all this is certainly not enough to have a lasting reversal of the underlying downward trend. If there is one thing to remember about the foreign exchange market, it is that, in the end, the rate differential is always a powerful driver of currency evolution. According to forecasts, this differential is likely to be unfavorable to the euro starting this summer. Therefore, caution.

Technical point

In the immediate term, the market continues to sell the dollar. The dollar index has fallen by 0.90% in a month. It's not dramatic either. It's mostly profit-taking. This decline is not uniform. It is more significant on major currencies than on emerging currencies, particularly currencies in the Asia zone. The latter are in free fall against the dollar, like the Japanese yen. The supports and resistances displayed below indicate respectively the lows and highs within which the rates should evolve during the week.

	Weekly Supports		Weekly Resistances
	S2	S1	R1	R2
EUR/USD	1.0688	1.0713	1.0987	1.1011
EUR/GBP	0.8440	0.8490	0.8644	0.8701
EUR/CHF	0.9600	0.9609	0.9987	1.0015
EUR/CAD	1.4599	1.4722	1.4944	1.5011
EUR/JPY	167.22	168.00	171.00	172.10

Announcements to follow

Besides the ECB, which will be the main focus this week, the Bank of Canada (BoC) is set to meet. We think it might also lower its rates by 25 basis points. This is not fully priced in the market, so expect some volatility. On the statistical side, the U.S. employment report is always closely watched. But it should not influence the direction of U.S. monetary policy in the short term. It is in autopilot mode, at least until September's return. A significant drop in consumer prices in the coming weeks would be needed to consider a rate cut in July, for example. This is not our scenario. We expect U.S. inflation to plateau around 3% for most of the summer before dropping below this symbolic level starting in October. Below are the publications and events that should have a major impact on the currency rates.

Day	Time	Country	Indicator	What to expect?
05/06/2024	15:45	CAN	Central bank meeting	Current policy rate at 5%. A rate cut of 25 basis points is possible.
06/06/2024	14:15	EUR	Central bank meeting	Rate cut of 25 basis points.
07/07/2024	14:30	USA	Employment report (May)	Previous at 175k.