On Wednesday, the greenback hit its highest level since July 2020 dragging the EUR/USD pair to an almost 17-month low.
Minutes from the Federal Reserve's November meeting, published yesterday, showed that the regulator may accelerate the winding down of its bond-buying program and raise interest rates sooner than expected if inflation in the US continues to remain high above target levels.
Increasing price pressures in the country caught the White House and the Fed by surprise and prompted them to take measures.
US President Joe Biden and Federal Reserve Chairman Jerome Powell emphasized earlier this week that they would take steps to tackle the rising prices of everyday goods.
Although the spike in inflation in the late spring and throughout the summer was considered temporary, concern at the Fed intensified as rates continued to remain elevated during the fall.
"Various participants noted that the Committee should be prepared to adjust the pace of asset purchases and raise the target range for the federal funds rate sooner than participants currently anticipated if inflation continued to run higher than levels consistent with the Committee's objectives," the minutes stated.
Following the two-day session that concluded November 3, Federal Reserve officials unanimously decided to begin reducing monthly asset purchases estimated at $120 billion.
At a given pace ($15 billion a month), asset purchases will be completely reduced by June of next year. However, some Fed policymakers are urging an acceleration of purchases amid continued high inflation and job growth to give the regulator more flexibility to raise its key interest rate from its current near-zero level early next year, if necessary.
According to Capital Economics, the FOMC clearly realized that inflation is likely to remain above the target level for a significant amount of time.
However, some Fed officials at the November meeting continued to advocate a more patient approach regarding incoming data, although they also said they would not hesitate to take appropriate actions to address inflation pressures that posed risks to its longer-run price stability and employment objectives.
Economic data released in the US over the past three weeks indicate that accelerating reductions in bond purchases is now firmly on the agenda for the Fed's next meeting, which will be held December 14-15.
Reports released Wednesday showed that the number of Americans filing new jobless claims fell to its lowest level since 1969 last week, while the Fed's preferred measure of inflation (core PCE) continued to rise, more than doubling the Fed's medium-term target of 2%.
San Francisco Federal Reserve Bank President Mary Daly, one of the US Central Bank's most cautious policymakers, said on Wednesday she would be open to accelerating the pace of the central bank's tapering of asset purchases if inflation remained elevated and jobs growth stayed strong and that she may see the FOMC raise rates once or twice next year.
Investors now see a 53% chance that the federal funds rate will rise in May 2022, up from the 45% mark on Tuesday, according to CME Group.
"The US economy retained its titanium status, buoying the dollar. Slightly hawkish comments from the normally dovish Daly was also a factor," National Australia Bank strategists said.
The day before, the greenback was able to get close to the round mark of 97.00, after which it corrected slightly.
On Thursday, the USD index is trading 0.2% below its 16-month high of 96.90 reached yesterday.
Most likely, the index is experiencing a technical correction, which became possible in the thin markets, as the US is celebrating Thanksgiving today, and this may give some break to the euro.
On Wednesday, the EUR/USD pair reached its lowest level since June 2020 at 1.1185, but then managed to recover above 1.1200.
While the U.S. economic calendar remains empty on Thursday, the minutes of the ECB's October 28 meeting is to be released.
At the press conference, ECB President Christine Lagarde said that officials had discussed inflation, but had stuck to the view that inflationary forces will prove transitory.
However, this week's Eurozone PMI reports raise doubts about the ECB's claim that the rise in inflation is temporary.
"The surveys show price pressures remain intense, with the output prices PMIs for both manufacturing and services rising to their highest in almost two decades, consistent with our view that headline inflation will remain high for some time," Capital Economics experts said.
Yesterday, ECB Vice President Luis de Guindos hinted at some concern about rising inflation.
"The ECB is continuously pointing out that the inflation rebound is of a transitory nature. However, we have also seen how in recent months these supply factors are becoming more structural, more permanent," Luis de Guindos said.
Renewed restrictions against resurging COVID-19 cases are outweighing the potential of a shift in ECB rhetoric, ahead of their December meeting and keeping EUR under pressure, economists at Westpac report.
"The EUR/USD pair rebounds are unlikely to regain 1.13 unless spreads tighten and the recent break of 1.1250 risks an early test of 1.1000-50 area," the bank stated.
The experts see any decline in the USD Index below 95 as an opportunity to buy the dollar.
The dollar has room to grow in the coming months amid falling risk appetite and new waves of COVID-19, Scotiabank experts said. They predict that the greenback may rise to 104-105 points.
Scotiabank analysts said the risk of an earlier start of the Fed's tightening cycle and a later start of tightening by the ECB has not yet been fully accounted for in quotes.
Commerzbank specialists said that the USD index recently broke through key resistance at 94.47-94.80. As long as the index trades above 93.96, a rise of USD to 97.73 may be expected. That said, the main target is located around 99.50. In the longer term, the index may break above 100.
According to Saxo Bank analysts, the weakness of the euro has been cyclical and provoked by the deterioration of economic growth prospects in the Eurozone, caused by a nasty jump in production costs related to gas and electricity. But if this situation lasts all winter, and especially if it is accompanied by a German "traffic light" coalition, which includes Christian Lindner of the FDP as finance minister with his stingy stance on fiscal stimulus, euro weakness could begin to take a more serious character - existential.
"Temporary support seems to have been found around the 1.1200 area, but the only factor supporting it seems to be oversold technical readings. Presumably more selling interest would emerge as a correction to be seen to the 1.1280-1350 area," strategists of ING said.
"Next support is at 1.1170 and below that, we are not getting far from 1.10 at all. This looks the state of play into December when, in the early weeks, we will see if any slowing in the relentless demand for USD funding," they added.