Euro climbs as inflation outperforms

We are seeing plenty of volatility in the currency markets, and the euro is no exception. EUR/USD has climbed 1.37% this week, recapturing the lion’s share of last week’s losses.

It’s a safe bet that ECB President Christine Lagarde was not pleased with the January eurozone inflation report for December, which was released just ahead of Thursday’s ECB policy meeting. The headline reading rose 5.1%, outperforming expectations of a 4.4% gain, and up from the December read of 5.0%. The reading marked a record high and has propelled the euro above the 1.13 level.

Will Lagarde change her tune?

Lagarde has been dovish on inflation, beating the ‘transitory inflation’ drum in the face of rising inflation in the eurozone. There are misgivings among some ECB members on how dismissive Lagarde has been towards rising inflation. Will Lagarde change her tune ever so slightly at the upcoming meeting? The markets will be on the lookout for subtle changes in the wording of the policy statement compared to previous statements, which stated that a rate hike was “very unlikely” in 2022 and that inflation was “transient”.

Lagarde’s follow-up press conference following the meeting could also have an impact on the euro’s direction. I would not be surprised if Lagarde minimizes the record-breaking CPI reading and sticks to her transitory script, but if inflation continues to head higher in the coming months, the ECB will be under strong pressure to take steps to curb inflation. In a research note, CIBC projected that Lagarde will say that a rate hike in 2022 is unlikely but will be non-committal about a rate hike in 2023.

The Fed is poised to raise rates at the March meeting, but what happens after that is anyone’s guess. Fed Chair Powell has said that the Fed is unclear on guidance so it’s no wonder that we are seeing a wide range of predictions as to the number of rate hikes this year, ranging as low as three and as high as seven. Fed Chair Powell will need to communicate better with the markets as to future rate hikes; otherwise, we can expect substantial volatility in the financial markets.

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• EUR/USD is testing resistance at 1.1287. Above, there is resistance at 1.1428
• There is support at 1.1064 and 1.0982

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