If in December the Federal Reserve delighted the financial markets by making a dovish pivot, in March, the central bank may seriously spoil their mood. The reality is that a strong economy has finally triggered an upward rebound in inflation, leaving the Federal Reserve with no choice but to revise its forecasts. Investors fear seeing only two acts of monetary expansion instead of three, which would be a real blow to EUR/USD.

U.S. Inflation Dynamics

The longer the Fed holds rates, the better it is for the U.S. dollar. Global risk appetite is soaring. Record highs in stock indices, bitcoin, and gold are evidence of this. They are all rising thanks to expectations of monetary stimulus from the Fed. And they ignore the fact that market forecasts for the scale of this stimulus are gradually decreasing. If in late 2023 derivatives signaled a drop in the federal funds rate from 5.5% to 4%, in early March, it was only down to 4.75%.

However, you cannot escape the truth. Lesser stimulus or their absence will cause real turmoil in financial markets. Significant pullbacks in the S&P 500, bitcoin, and gold should be expected if the updated FOMC forecasts mention two instead of three monetary policy easings in 2024. The dynamics of interest rate swaps suggest that its prolonged maintenance at a plateau is a strong argument for a decrease in EUR/USD quotes.

EUR/USD Dynamics and Interest Rate Swap Differential

Nordea Markets confirms its forecast that the federal funds rate will be lowered for the first time only in September and expects the euro to fall to the lower boundary of the medium-term consolidation range of $1.05–1.1.

If the Fed does keep rates flat until autumn, the U.S. dollar will receive support from the Donald Trump factor. The policy voiced by the former White House owner is very favorable for the USD index. In particular, the U.S. withdrawal from NATO could trigger a flight to safe-haven currencies due to concerns about the fate of European currencies. Increasing import tariffs by 10% and additional fiscal stimulus will improve the trade balance and prolong the impact of the American exceptionalism factor.

All this gives Barclays reason to forecast a strengthening of the U.S. dollar, at least by 3%, on expectations that in the rematch between Joe Biden and Donald Trump, the Republican will emerge victorious.

Support for bears on EUR/USD could come from an unexpected start to the normalization of the Bank of Japan's monetary policy. It will lead to an increase in bond yields worldwide, including U.S. Treasury bond rates. Thanks to their rising dynamics, the USD index rose in January–February.

Technically, on the daily chart of EUR/USD, the expected 1-2-3 pattern was finally formed, as forecasted in previous materials. As predicted, the drop of the main currency pair below 1.09 activated it and allowed to increase the shorts formed from 1.0945. They should be held.