The euro was slightly retreating in the early session and stabilized to a certain extent after a rebound against the US dollar since mid-April, supported by improving economic conditions in the Eurozone.
The ECB continues to maintain its interest rates at a record high of 4.5%, compared to the US rate of 5.5%.
Despite the European Central Bank keeping lower interest rates compared to the US, the euro has been strengthening since its April lows, supported by more robust business activity and positive economic indicators in Europe.
This contrasts with the recent underperformance of the US economy relative to market expectations. However, the euro’s recent rally could face pressure.
It is anticipated that the ECB could cut rates more aggressively than the Federal Reserve, which could expand the rate gap and potentially bring the euro closer to parity if market expectations shift. Nevertheless, the downside risk on the euro may remain limited, as any sustained weakness in the euro could affect imported inflation and influence the ECB’s monetary decisions.
The euro could appreciate further if economic sentiment in Europe improves above market expectations. On Wednesday, volatility could increase in the euro-dollar pair as all eyes will be on US inflation data. The market expects a slight decrease month-on-month in April, down to 0.3% from 0.4% in March.
A weaker-than-expected inflation reading could drive the dollar lower and support the euro. US Treasury yields could also react to the release of inflation data and could come under pressure if inflation declines further.
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