28.01.202112:37 Forex Analysis & Reviews: EUR/USD to decline even amid weak 4th quarter US GDP

EUR / USD fell quite strongly yesterday after the European Central Bank made comments on the high exchange rate of the European currency.

Meanwhile, the decision of the Federal Reserve to maintain its current interest rates satisfied investors, so the markets became calm after the meeting.

As expected, the US Fed kept interest rates unchanged at 0-0.25%. They said this will remain for quite a long time, until conditions in the labor market improve and employment rate peaks. At the same time, inflation should also moderately move towards 2.0% or above, which is what the central bank has been attempting to achieve.

The Fed also plans to continue its bond purchase program, maintaining the agreed $ 120 billion a month. $ 80 billion of this is in Treasury securities, while the other $ 40 billion is in mortgage-backed debt. This action will continue until "substantial progress" is made towards the targets.

As for the pace of economic recovery, the central bank predicts a slowdown in recent months. In particular, a rather weak GDP growth is expected due to the deterioration of sectors most affected by the coronavirus pandemic. During the meeting, the Fed noted that economic activity and employment, although continued to recover, has been climbing very slowly. Much will depend on how quickly the COVID-19 vaccine spreads.

The Fed also noted that they will continue to monitor the incoming information, according to which it will be possible to assess the prospects for economic growth. In any case, the central bank is ready to adjust its monetary policy if necessary.

Fed Chairman Jerome Powell also made it clear that the central bank is not close to abandoning their aid programs.

According to Powell, the economy is still very far from full recovery, so the Fed should make sure that growth rates continue to increase.

He pledged to provide clearer guidance on when the committee will actually consider easing their aid programs.

Against this backdrop, the yield on 10-year Treasury bonds hovered just above 1%, while the S&P 500 index fell by 2.6%. This is the steepest drop since October 2020.

With regards to EUR / USD, the quote is on its way towards 1.2050, a break below which will certainly push the pair even lower to 1.2020 and 1.2980. But if the quote returns to 1.2104, EUR / USD will jump to 1.2145, and then to 1.2185.

In another note, a report from the DIW Institute was released yesterday, which indicated that the German economy may contract this first quarter of 2021 amid tough restrictions in the country. In particular, GDP is forecast to drop by 3%, after falling quite similarly at the end of last year.

On January 29, Destatis will publish Germany's 4th quarter GDP report. But in the meantime, today, the report on US 1st quarter GDP will be released, which could lead to a serious surge in volatility, especially if data diverges from the forecasts of economists.

However, it should be understood that even if the figure comes out weaker than expected, it may not necessarily lead to the weakening of the US dollar. This is because the situation in the Euro area is much worse due to ongoing lockdowns. Therefore, it should not be a surprise if EUR / USD continues to fall amid weak US GDP data.

In such a case, buying safe-haven assets will be a more correct decision, especially since the outlook for the European economy is turning bleak.

To add to that, the ECB is set on preventing further growth of the euro. Yesterday, ECB member Klaas Knot announced that the central bank has all the necessary tools, including negative interest rates, to halt euro rally.

"Euro's exchange rate is something that we are tracking very closely," Knot said. "The more expensive the euro is, the weaker inflation will be in the future."

Last year, the European currency rose nearly 9% against the US dollar, the biggest jump since 2017. In November and December alone, despite the introduction of quarantine measures and partial lockdown of the EU, the currency rose by 5% against the US dollar. Unsurprisingly, such a leap is undermining the ECB's plans to increase inflationary pressures this year. The high euro rate also constrains economic growth and makes the export of goods less competitive due to their high cost.

In another note, a report from the US Department of Commerce revealed that orders for durable goods in December 2020 increased by 0.2%, after rising by 1.2% in November, Economists expected the index to rise by only 0.9%. The weaker-than-expected growth was partly due to a decline in orders for transport equipment, which fell 1.0% after jumping 1.9% in November. Orders for aircraft and non-military parts dropped by 51.8% at once, but excluding this volatile category, orders increased by 0.7%.

ISTAT also published a report on Italy's foreign trade surplus, indicating that it rose to € 7.907 billion euros in December 2020, from € 6.801 billion in November. At the same time, exports increased by 3.1%, after rising by 2.0% in November. Imports, meanwhile, fell by 3.7%.