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02.05.202310:53 Forex Analysis & Reviews: Focus turns to Fed meeting

Exchange Rates 02.05.2023 analysis

The US currency kicked off the new week with gains. Currently, it is trying to stabilize ahead of the Federal Reserve meeting. At the same time, the European currency trimmed some of its early gains in anticipation of further actions from the ECB and the release of macroeconomic statistics on the euro area but then recouped lost ground.

At the beginning of the new month, the greenback rose against major currencies, primarily against the euro, but later retreated slightly. The euro took advantage of that decline and strengthened against the dollar ahead of the release of data on manufacturing activity in the euro area. In addition, Tuesday's macroeconomic calendar includes reports on consumer prices in the bloc's member states.

On Wednesday, the focus of market participants will be on the Fed's interest rate decision. The regulator is expected to lift the key rate by 25 basis points. At the same time, analysts disagree on whether this increase will be the final one before the FOMC pauses its monetary policy tightening.

An anticipated increase in the Federal Reserve's interest rate this week may be the final one in its monetary policy tightening cycle. According to preliminary estimates, the regulator will raise the interest rate by 0.25% to its highest level since June 2006. Back then, the Federal Reserve kept the benchmark rate at that level up to September but then initiated a new cycle of rate cuts.

Many investors and traders believe that the Fed will stick to the chosen strategy and begin to ease monetary policy by the end of the year. As for the ECB, it is expected to continue acting aggressively. In such a situation, the euro is likely to keep rising, while the greenback will have to put a lot of effort to stay afloat.

The speech of Fed Chair Jerome Powell will be of great importance to market participants. Even though only part of the reports on the US labor market is set to be published by May 3, this will not prevent the Federal Reserve and its head from assessing the current situation. If Powell signals that the regulator is ready to pause its rate-hiking cycle, the US dollar may lose ground. In case of no clear signals from the Federal Reserve, the most likely scenario suggests a rise in the greenback, experts believe.

As for the ECB's decision, markets expect the European regulator to raise its key interest rate by 25 basis points. Currency strategists at TD Securities are of a similar opinion, but they do not rule out a 50-basis-point increase. According to analysts, such a decision may be caused by persistently high inflation in the euro area, policymakers' attempts to prevent a recession, strong wage growth in the EU, as well as signs of easing stress in the global financial system. All this is "enough for the ECB to comfortably hike rates by 25bps in May and re-introduce guidance that more tightening is to come. We wouldn't completely rule out a 50bps hike should data ahead of the decision surprise significantly but that would come without guidance," analysts at TD Securities noted.

Against this background, the EUR/USD pair sharply retreated from recent highs near 1.1035. Its decline intensified after the ISM's manufacturing PMI was released. In April, the indicator increased but remained below the 50 mark that separates expansion and contraction in activity. This supported the greenback and limited the euro's bullish run. As of Tuesday morning, the EUR/USD pair was trading at 1.0998, trying to regain lost ground.

Exchange Rates 02.05.2023 analysis

The EUR/USD pair slid after it was reported that the ISM's manufacturing PMI improved to 47.1 in April from 46.3 a month ago. However, its rise was insignificant. As a result, the currency pair fell to its lows, reaching the 1.0970 mark.

According to the technical chart, the upward trend remains intact. Nevertheless, there is a likelihood that EUR/USD may test the 20-day EMA at the level of 1.0955. A decline below this level will open the way to the level of 1.0900. If things change and buyers take the lead, the pair is expected to advance to 1.1000 and above. The next target will be 1.1095, experts believe.

In the current situation, the dollar was supported not only by the latest macroeconomic data from the US but also by the closure of the largest bank, First Republic. According to analysts, the situation with First Republic and the Fed's hawkish stance will contribute to further gains in the greenback. Experts predict that the regulator's decision on interest rates will help stabilize the US banking sector.

Data on inflation and manufacturing activity in the euro area is the focus of market participants. Earlier, the preliminary manufacturing PMI showed a decline to 45.5 from the March level of 47.3. Now currency strategists are awaiting the release of European macroeconomic statistics, particularly on consumer prices in the euro area. The annual inflation rate in the EU is estimated to have accelerated slightly to 7% from the previous 6.9%.

On Wednesday, May 3, traders and investors will draw particular attention to the Federal Reserve's decision on interest rates. On Friday, May 5, they may take notice of statistics on the US labor market. In addition, Friday's macroeconomic calendar will feature data on US job openings and factory orders. These reports may back up the euro, although the dollar is expected to continue to dominate in the medium term.

Larisa Kolesnikova,
Analytical expert of InstaSpot
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