Tired of Choppy Dollar Moves? The Coming Week Could be Huge

Fundamental Forecast for US Dollar: Neutral

• US GDP report disappoints, but strong consumer spending boosts optimism

• USDJPY can’t gain traction at multi-year peaks, hurts Dollar Index

• US Dollar forecast hinges om FOMC interest rate decision

The US Dollar (ticker: USDOLLAR) rallied to start the week as the Euro initially fell to multi-week lows, but a sharp reversal left the safe-haven currency lower as the US S&P 500 finished just shy of record peaks.

Directionless forex market price action has proven frustrating, but the week ahead promises significant volatility on potentially pivotal US Federal Open Market Committee (FOMC) and European Central Bank (ECB) interest rate decisions. Top-tier event risk continues through Friday’s US Nonfarm Payrolls report, and it’s little exaggeration to claim that the coming days could define the following month of US Dollar price action.

Market expectations show that the FOMC is extremely unlikely to change interest rates or make concrete adjustments to current monetary policy. Yet a recent rough patch in US economic data suggests that Fed officials could project that aggressive Quantitative Easing measures could remain in place for longer than previously expected.

Forex markets may take their cues from any obvious shift in Fed rhetoric, but the biggest currency mover may come on Thursday’s highly-anticipated European Central Bank interest rate decision. Survey data from Bloomberg News show that approximately 60 percent of all polled Economists believe that the ECB will cut interest rates by 25 basis points. It would be the first such cut since July of last year, and it would reaffirm the central bank’s commitment to limiting the fallout from current European economic crises.

We question the value of an ECB rate cut as official Euro interbank lending rates (EURIBOR) are well-below the ECB’s Main Refinancing rate; the bank’s aggressive lending keeps monetary conditions far easier than the headline interest rate suggests. Overnight Index Swaps, which institutions use to hedge against and/or bet on official interest rate moves, predict that real market rates will stay the same. Yet we can’t argue with the fact that there is considerable disagreement over the future of ECB rates, and many speculate that the central bank could likewise introduce unconventional easing measures. Given Euro Zone unemployment rates at or near multi-decade peaks, the pressure is on the ECB to get more aggressive in its fight against economic malaise.