EUR/USD traded at 1.1501 on Friday, reflecting a decline of 0.23% from the prior session, yet remaining above the 1.15 threshold and close to its peak since June 16. The pair is poised for a monthly increase of approximately 0.8% to 1.09%, marking its most favourable month since the euro’s decline in the spring, while still reflecting a 0.77% decrease over the past year. The trajectory of the week elucidates the current positioning of the pair. As we approach Wednesday’s Federal Reserve decision, the EUR/USD exchange rate is positioned around 1.1386, while the dollar has reached a one-month peak, driven by safe-haven flows stemming from the ongoing conflict in the Middle East. Markets had estimated approximately a one-in-three probability of an unexpected Federal Reserve rate increase. The committee concluded with three regional presidents dissenting in favour of a hike, which, on the surface, appears hawkish. The currency market dismissed the situation entirely and sold dollars, as a hawkish hold without forward guidance does not constitute a hike. The pair experienced a spike into the upper 1.1470s on Wednesday evening, subsequently trading at 1.14578 by 01:17 on Thursday. Subsequently, the European data was released. Second-quarter eurozone GDP registered a growth of 0.4% quarter over quarter, surpassing the forecast of 0.2%. German inflation increased more significantly than anticipated. The EUR/USD pair experienced a significant ascent past the 1.1500 level, surpassing the mid-July peak and establishing a new higher swing high. This marks the first authentic structural break in the prevailing downtrend since January.
Friday marked the conclusion. In July, the Eurozone’s flash HICP saw an increase to 2.9%, up from 2.8%, while the core inflation rate rose to 2.5% from 2.4%. The currency pair experienced a rebound from the 1.1536 to 1.1542 range before retreating to approximately 1.1501. That rejection represents the immediate upper limit. The macro divergence propelling this situation is indeed atypical. Both central banks are currently favouring tightening over easing, a scenario that is not frequently observed in currency markets. The ECB maintains its deposit rate at 2.25% following a hike on June 11, marking the first increase since 2023. Market expectations indicate a 70% to 79% probability of a rise to 2.50% on September 10, with a full pricing of 2.75% anticipated by early 2027. The Fed maintains a range of 3.50% to 3.75%, with probabilities of approximately 63% to 65% for a rate increase in September. That results in a nominal differential of 125 to 150 basis points favouring the dollar, as the market anticipates two hikes in Europe compared to one in the United States. The euro’s rally in July signifies the onset of convergence in trading dynamics, with 1.1570 serving as a critical point of testing. Eurostat’s preliminary flash estimate released on July 30 indicated that the seasonally adjusted GDP of the eurozone grew by 0.4% quarter over quarter in the second quarter, surpassing the consensus expectation of 0.2% and the mainstream analyst forecast of merely 0.1%. The EU experienced an expansion of 0.5%. Year over year, the euro area experienced a growth rate of 1.0%, while the European Union recorded a slightly higher growth rate of 1.2%. That represents a growth rate double the anticipated pace and marks the bloc’s most rapid expansion since the beginning of 2025. The 0.1% consensus was articulated as just sufficient to prevent a technical recession. The actual print registered at four times that figure.
The significance of the forecast miss outweighs the actual level itself. Analysts dedicated the second quarter to modelling a eurozone economy under pressure from an energy shock stemming from an uncontrollable war, with Brent prices exceeding $89 and European petrol costs directly impacting industrial margins. The recession call was the prevailing assumption across most desks. Growth accelerating instead indicates that the energy shock is being absorbed rather than transmitted, which eliminates the primary argument against ECB tightening. Germany contributed 0.2% growth in the quarter — modest in isolation, but for an economy that spent two years in and out of contraction, a positive print alongside a 0.9% monthly inflation increase is precisely the combination that prompts a central bank to adopt a hawkish stance. The timing was nearly optimal for the euro. The GDP release occurred one day prior to the July inflation report and six weeks ahead of the September 10 ECB meeting, which will present new staff macroeconomic projections. Growth data of this quality eliminates the sole objection that could have hindered a rate increase: the concern that tightening amidst a delicate expansion would impede progress. The ECB has contended that its economy is operating in line with its baseline scenario, which was itself based on a rate hike on September 10. Growth at double the forecast validates the baseline and reinforces the established rate trajectory.
For EUR/USD, the mechanism operates in a direct manner. Unexpected growth in the Eurozone has led to a recalibration of the anticipated trajectory for the ECB, resulting in an increase in front-end Bund yields and a reduction in the spread compared to Treasuries. The pair breached 1.1500 shortly after the release and has maintained its position above this level ever since. Revised GDP figures will be released on August 14, followed by the regular estimate on September 7, providing the Governing Council with two additional assessments prior to making its decision. Eurostat’s flash estimate released on Friday indicated that annual inflation in the euro area reached 2.9% in July, an increase from 2.8% in June, aligning with the expectations of economists. The monthly rate registered at 0.2%. The composition is what drives policy. Energy recorded the highest annual rate at 10.0%, an increase from 8.5% in June. Services increased to 3.3%, a rise from the previous 3.2%. Non-energy industrial goods increased to 0.9% from 0.7%. Food, alcohol, and tobacco experienced a deceleration to 1.2%, down from 1.5%. Core inflation, excluding energy, food, alcohol, and tobacco, increased to 2.5% from 2.4%. Energy at 10% signifies the conflict. Services at 3.3% and core at 2.5% represent the second-round effects that the ECB has been cautioning against, with both metrics experiencing an upward shift in the same month. That is the specific pattern Lagarde highlighted when she stated that the longer energy prices stay elevated, the more probable it is that they will contribute to a rise in broader inflation via indirect and second-round effects.
The complete trajectory for 2026 illustrates a narrative of disinflation that has been reversed. In February, the Euro area HICP recorded a rate of 1.9%, which increased to 2.6% in March, followed by a rise to 3.0% in April and 3.2% in May — marking the highest level since September 2023. Subsequently, it eased to 2.8% in June before rising again to 2.9% in July. The June decline was presented as an indication that the energy shock was subsiding. One month later, it was not. Europe’s inflation slowdown was fleeting, lasting precisely one print. ECB staff projections indicate that average inflation for 2026 is expected to be 3.0%, primarily driven by energy costs, and the data from July aligns with this forecast rather than contradicting it. The July figures are unlikely to serve as the sole determining factor, as policymakers will receive an August print prior to September 10, and oil has demonstrated significant volatility. However, the trajectory is now clear following two successive tier-one releases: growth surpassing expectations and core inflation stabilising within the same week, six weeks prior to a meeting that will present new projections. The increase in non-energy industrial goods from 0.7% to 0.9% represents a subtle yet significant figure in the latest release. Goods inflation had been the most consistently restrained element throughout the energy shock, and its upward movement indicates that input costs are permeating the manufacturing chain rather than remaining confined to fuel and utility expenses.