29.11.202209:10 Forex Analysis & Reviews: The dollar is walking on thin ice. Decline after growth

The dollar fell again after experiencing solid growth at the beginning of the week. The greenback couldn't hold on to its gains for long and despite its efforts, the USD slipped from its highs. However, the dollar won't lose hope and keeps pushing the euro, as the dynamics of the latter is still unstable.

On Tuesday morning, November 29, the U.S. currency slightly fell after having risen the day before. Against this backdrop, the euro gained confidence and tried to push harder, acting with mixed results. At present, the EUR/USD pair dynamics is determined by market expectations, which have taken a pause in anticipation of the release of the US GDP statistics. According to analysts, the forthcoming macrodata, which will be released on Wednesday, November 30, will be able to influence the Federal Reserve's future policy. According to the experts, the estimate of the USA GDP dynamics for the third quarter of 2022 will be improved to 2.7% (compared to the previous estimate of 2.6%).

After the release of the data, the Fed is able to reconsider its previous monetary strategy, analysts believe. Such a situation is possible after the central bank's next meeting, which will be held in mid-December 2022. According to its results, the majority of experts (68%) expect the rate to be raised by 50 basis points, to 4.25-4.5% per annum. At the same time, some representatives of the central bank, in particular Thomas Barkin, president of the Fed of Richmond, admits a possibility of a slow down in the process of raising interest rates. According to Barkin, the Fed will do whatever is necessary to control inflation. Barkin said the rate hikes have taken policy to where the Fed now has switched from having its foot on the gas pedal to the brake. The new phase means policymakers will "pump the brakes sometimes" and "act a little bit more defensively," he said. According to the expert, inflation expectations are fairly stable now, but if inflation rises, the central bank will continue to raise rates.

Earlier, Bullard, head of the St. Louis Fed, known for his hawkish stance, said that markets underestimate the possibility of aggressive rate hikes next year. According to the official, in the current situation, the Fed will have to "keep rates high not only in 2023, but also in 2024". However, this strategy diverges from market expectations, as traders and investors believe that the peak rate will not exceed 5%. That means the central bank, having raised the rate by 50 bps in December, would move to a 25 bps step from February 2023. However, experts believe this is unlikely.

The current situation is undermining the USD, which was growing steadily at the beginning of the week. However, the greenback later seized the initiative from the euro, which rose to 1.0380 from the previous close of 1.0337. On Tuesday morning, November 29, EUR/USD traded at 1.0370 and lost some of its previous ground. Take note that at certain moments, the pair rose to 1.0390.

The current behavior of the U.S. and European currencies was also influenced by the speech of European Central Bank President Christine Lagarde. In her recent statement, she reiterated that interest rates will remain the main tool for fighting inflation. "In December, we will also lay out the key principles for reducing the bond holdings in our asset purchase programme. In the current environment of high inflation, fiscal policy needs to be considerate to not add to inflationary pressures", Lagarde said. According to her, the pace of interest cuts will depend on the central bank's updated outlook, the persistence of the shocks, the reaction of wages and inflation expectations.

Lagarde's statements somewhat stabilized the euro, giving it a short-term head start over the dollar. However, the euro's growth will be short-lived, experts believe. According to the October report of the ECB, European politicians are afraid that inflation is starting to "take root" in certain sectors, as its strengthening will require a further increase in rates. At the same time, market participants are worried about the hawkish position of the Federal Reserve, whose representatives believe that interest rates in the U.S. will peak in 2023.

According to Fed Chairman Jerome Powell, the final rate after the end of the tightening cycle may be higher than previously expected. James Bullard agrees with this. Bullard and Mary Daly, as well as Loretta Mester, head of the Cleveland Fed, who confirmed that reducing inflation is "a critical task for the central bank." According to the Fed representatives, while inflation is above the target level, it is necessary to adhere to the current course of tightening the monetary policy. At the same time, in the current situation, the greenback has to balance on the verge of recession and recovery, from time to time dragging the euro with it. However, experts expect the dynamics of both currencies to stabilize in the medium-term planning horizon.