Dollar weakens on trade war fears

Important calendar events

• EUR: French Industrial Production, Spanish, Italian, French and German Services PMI, EU Final Services PMI, PPI, Italian Retail Sales
• GBP: Final Services PMI, Monetary Policy Report Hearings
• USD: Final Services PMI, ADP Non-Farm Employment Change, ISM Services PMI

USD

The dollar continued declining on Tuesday and the index dropped from 106.5 to 105.6. US treasury yields gained strength, with the US 10-year bond yield rising from 4.18% to 4.25%. 

The US Federal Reserve held interest rates steady at its January meeting after delivering three consecutive rate cuts in 2024. FOMC policymakers voted unanimously to maintain the federal funds range to a target range of 4.25% to 4.50%. 

The Fed’s latest monetary policy statement did not include an earlier mention that US inflation is moving towards the central bank’s 2% target. Instead, the report stated that price pressures remain elevated, which is leading to a prolonged pause in rate cuts. 

Fed Chair Jerome Powell delivered a mildly hawkish message after the policy meeting, stating that the Fed’s approach will remain data-driven and stressed that the central bank needs to consider potential policy changes under Trump’s administration. 

Market odds of rate cuts within the year are on the rise, putting pressure on the dollar and US treasury yields. Markets are currently pricing in at least two rate cuts within 2025, with rising possibility of a third one at the end of the year. Concerns that inflation may rise again if trade wars break out, have pushed the timeline of policy normalization back to 2026. 

US President Donald Trump has been using threats of imposing trade tariffs as a negotiation tool to further his agenda with other countries. Trump has threatened that he will announce reciprocal tariffs on many countries, which would raise US import taxes to match those imposed by the country’s other trading partners. 

Trump’s tariff plans change rapidly, causing confusion and volatility in markets. Trump’s plans of imposing 25% tariffs on Canada and Mexico had been postponed for a month after both countries agreed to tighten border activities. On Monday, however, Trump stated that he intends to go ahead with imposing tariffs on his neighboring countries and the tariffs against Canada and Mexico took effect on Tuesday. Trump has also imposed additional 10% tariffs on China starting on Tuesday, bringing Chinese duties to a total of 20%. 

Trump’s tariffs may spark global trade wars and are causing turmoil in markets. The Canadian government has announced that they would implement 25% retaliatory tariffs on US imports starting on Tuesday. Trump escalated matters further, threatening Canada with increased reciprocal tariffs. China retaliated to the increased US duties by announcing 10%-15% tariffs on certain US imports, such as farm products, starting from March 10. 

On the data front, ISM Manufacturing PMI dropped to 50.3 in February from 50.9 in January, against expectations of a 50.5 reading. February’s print remained above the threshold of 50.0 that denotes industry expansion, but the lower print indicates that the US manufacturing sector is expanding at a reduced pace. Meanwhile, ISM Manufacturing Prices rose to 62.4 in February from 54.9 in January against expectations of 56.2, indicating that inflationary pressures in the US are rising. 

Preliminary GDP data showed that the US economy expanded by 2.3%, following 3.1% expansion in the third quarter of 2024 and falling below market estimates of 2.7% growth. In addition, the US economy expanded by 3.0% in the second quarter of 2024 and by 1.4% in the first quarter.

Headline inflation in the US rose by 3.0% year-on-year in January after rising by 2.9% in December against expectations of a 2.9% print. Monthly inflation rose sharply by 0.5% in January after rising 0.4% in December, against a 0.3% rise anticipated. Core CPI, which excludes food and energy, rose by 0.4% in January, exceeding expectations of 0.3% and following a 0.2% rise in December. Core CPI rose 3.3% year-on-year in January, against a 3.2% gain in December.

Markets this week will continue to focus on Trump’s economic policies and trade tariffs, and Trump’s statements are likely to cause volatility in the price of the dollar. 

TRADE USD PAIRS

EUR 

EUR/USD traded in an uptrend on Tuesday, rising from 1.048 to 1.062, its highest value since November. If the EUR/USD pair declines, it may find support at 1.036, while resistance may be encountered near 1.066.

EU CPI Flash Estimate data released on Monday showed that Eurozone inflation remains above the ECB’s 2% target and may prevent the ECB from cutting interest rates further. Eurozone inflation rose to 2.4% year-on-year in February after rising by 2.5% in January, exceeding expectations of a 2.3% print. Core CPI, which excludes food and energy, dropped to 2.6% in February from 2.7% in January but also came in higher than the 2.5% reading anticipated.

Manufacturing PMI data released on Monday showed that the Eurozone manufacturing sector remained in contractionary territory in February, with a print of 47.6, which was considerably below the threshold of 50.0 that denotes industry expansion. February’s print, however, exceeded January’s print of 47.3, indicating that the EU manufacturing sector is improving slightly. 

The ECB lowered its benchmark interest rate by 25 basis points in January, bringing its main refinancing rate down to 2.90% from 3.15%. The central bank is currently expected to cut interest rates up to four more times in 2025, to a total of 125bps, until neutral policy settings are reached. Expectations that the ECB will return to a more normalized policy setting sooner than the Fed are putting pressure on the EUR/USD rate.

In her speech after the policy meeting, ECB President Christine Lagarde stressed that EU policymakers will not commit to a predefined rate cut path and that the central bank’s policy will remain data driven. 

This week, all eyes will be on the ECB monetary policy decision on Thursday. Market analysts expect that the central bank will cut interest rates again this week by 25 basis points. Traders will focus mostly on the ECB’s Monetary Policy Statement and Christine Lagarde’s press conference after the meeting to gain insight into the central bank’s rate outlook.

Meanwhile, tariff threats on European imports to the US are putting pressure on the Euro. US President Donald Trump stated last week that he intends to impose 25% tariffs on European cars and other goods. 

Preliminary Flash GDP data showed that the Eurozone economy remained stagnant in the final quarter of 2024 after expanding by 0.3% in the second quarter, raising concerns of stagflation in the EU. The economic outlook of the EU remains fragile as prolonged tightening has brought the Euro area economy to the brink of recession.

TRADE EUR PAIRS

GBP 

GBP/USD continued to gain strength on Tuesday, rising from 1.270 to 1.279, as the dollar weakened. If the GBP/USD rate goes up, it may encounter resistance at 1.281, while support may be found near 1.256.  

BOE policymakers cut interest rates by 25 basis points in February and the Official Bank Rate was reduced from 4.75% to 4.5%. Seven out of nine MPC members voted in favor of a 25 basis point rate cut, while surprisingly, the other two members were more dovish, voting for a 50bps rate cut. 

Bank of England Governor Andrew Bailey has hinted at further rate cuts, but has stressed, at the same time, that the BOE will need to decide on its policy on a meeting-by-meeting basis and has refused to commit to a timeline or magnitude of future rate cuts. Markets are currently pricing in over 50 bps of easing by the end of 2025. The BOE currently anticipates that the British economy will grow by 0.75% by the end of 2025 and inflation will rise from 2.5% to 3.7%. 

This week, Bailey is due to appear before the Treasury Select Committee on Wednesday, together with other MPC members. Bailey’s speech is expected to attract considerable market attention and may create some volatility in the price of the Sterling.

The British economy expanded by 0.4% in December, following expansion by 0.1% in November and exceeding expectations of a 0.1% print. Preliminary GDP data for the fourth quarter of 2024 showed that the British economy expanded by 0.1% against estimates of 0.1% contraction and following economic stagnation in the third quarter of 2024. 

Price pressures in the UK are rising, reducing the odds of a BOE rate cut in February and putting pressure on the Sterling. Headline inflation in the UK rose by 3.0% annually in January, up from 2.5% in December, against expectations of a 2.8% print. Core inflation, which excludes food and energy, rose by 3.7% year-on-year in January from 3.2% in December, which was in line with expectations.

TRADE GBP PAIRS

JPY

USD/JPY plummeted to 148.1 in early trading on Tuesday, but rallied later in the day, rising to the 149.8 mark. If the USD/JPY pair declines, it may find support at 148.0. If the pair climbs, it may find resistance at 151.8. 

The BOJ raised its interest rate by 25 basis points in January, from 0.25% to 0.50%, its highest level since 2008. In addition, the BOJ adjusted its inflation projections upward, to reflect the depreciation of the yen and rising oil prices, hinting at more rate hikes down the road. Policymakers expect Japan’s inflation to rise to 2.4% in 2025, up from previous estimates of 1.9%, and above the central bank’s 2% target. 

BOJ Governor Kazuo Ueda hinted that the central bank will continue to raise interest rates if Japan’s economy continues to improve and the BOJ 2% inflation target is reached. Ueda emphasized, however, that the timeline of future rate hikes will depend on economic and inflationary conditions. Markets currently anticipate that the BOJ will raise interest rates to a peak interest of 1.00% over the next two years. 

US President Donald Trump stated this week that Japan’s depreciating currency is causing a trade imbalance between Japan and the US, which is unfair to the US. Trump’s comments on the Yen’s weakness are raising concerns that the US President is considering imposing trade tariffs on Japan. 

Inflation in Japan is on the rise, raising the odds of future rate hikes and providing support for the Yen. The headline Tokyo CPI inflation rose to 3.4% annually in January from 3.0% in December. National Core inflation in Japan rose by 3.2% year-on-year in January from 3.0% in December against expectations of a 3.1% print. In addition, BOJ Core CPI rose to 2.2% year-on-year in January from 1.9% in December. 

Preliminary GDP data for the final quarter of 2024 showed that the Japanese economy expanded by 0.7% against expectation of 0.3% growth. Final GDP data for the third quarter of 2024 showed that Japan’s economy expanded by 0.3%, down from 0.7% in the second quarter.

TRADE JPY PAIRS

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Written by:
Myrsini Giannouli

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