Euro to climb slightly by years end

Analysts at Berenberg have updated their Euro to Dollar (EUR/USD) exchange rate outlook in the context of inflation trends and shifting expectations for monetary policy.

The strategists expect the EUR/USD to edge slightly higher by the end of 2023, to trade at around 1.12 and forecast a strengthening to 1.18 by the end of 2024.

A significant decline in U.S. inflation, which fell more than anticipated from 4.0% to 3.0%, has led to a revision of the Federal Reserve's projected interest rate hikes.

The implication here, according to Deutsch, is that the Fed may have already executed its final rate increase in July, thus closing out its tightening cycle.

"Following a stronger-than-expected decline in inflation from 4.0 % to 3.0 % in the US, expectations for further interest rate hikes by the Federal Reserve have been revised," says Gerald Deutsch, a key figure at Berenberg.

"It is likely that the Fed has conducted its final interest rate hike in July, thereby concluding its tightening cycle," he adds.

The change in rate outlook gave an immediate boost to the Euro, with the currency briefly climbing above 1.12 US dollars.

However, the initial momentum of the Euro was quickly tempered by economic headwinds.

A downturn in economic performance, indicated by July's PMI readings, has since pushed the exchange rate back to around 1.11 US dollars per Euro.

"However, there have been slight setbacks for the Euro since then. Following weak economic data (July PMIs), the exchange rate retraced towards 1.11 US dollars per Euro," the Berenberg analyst explains.

"The weak economic conditions in the Eurozone are weighing on the Euro outlook," he continues.

Deutsch's year-end forecast for the EUR/USD exchange rate stands at approximately 1.12, a modest increment from its current position.

The analyst attributes the restrained outlook to the dampening effect of subdued economic data on the European Central Bank's (ECB) likelihood to raise interest rates in September.

Such a move would further narrow the interest rate differential with the United States.

"By the end of the year, we anticipate the EUR/USD exchange rate to be around 1.12, only slightly higher than the current level," Deutsch states.

"The subdued economic data reduce the likelihood of an interest rate hike by the ECB in September, which would prevent the Eurozone from further narrowing the interest rate differential with the United States," he adds.

Yet, there's an anticipation of a stronger Euro in the longer-term horizon. Deutsch expects an economic recovery in the Eurozone next year, which should provide a more solid foundation for the Euro's strength.

The currency, he projects, could appreciate to approximately 1.18 against the US dollar by the end of 2024.

"When the Eurozone makes a recovery in economic performance next year, the Euro is expected to strengthen further. We expect the Euro to appreciate to approximately 1.18 by the end of 2024," says Deutsch, painting a more optimistic picture for the future of the Euro.