The EUR/USD pair tried to start an upward movement on Monday, as traders tried to break away from the 1.7-figure range due to the greenback's broad weakness. However, the pair failed, and sellers took control at the beginning of the U.S. trading session, and brought the price back to its initial positions.
Take note that the pair has been trading within the 1.7-figure range for the second consecutive week. This indicates how indecisive both the bulls and the bears are, as they struggle to determine the price's direction against a mixed fundamental backdrop. A different interpretation of the situation might be that the parties are in a state of balance. Factors that used to contribute to the decline are no longer relevant, but at the same time, there are no fundamental factors that can support a sustained rise in EUR/USD. As a result, the pair is drifting.
In my opinion, in order to resume the downtrend, they need one thing: confidence that the Federal Reserve will maintain its wait-and-see stance not only at the March meeting but also at the next meeting in May. It's important to note that the outcome of the upcoming meeting is practically predetermined. Traders are almost 100% certain that the central bank will keep its monetary policy unchanged in March. There is less certainty regarding the May meeting. The CME FedWatch tool shows a 51% chance of a rate cut in May. While this is not a decisive majority, it's still significant – a 50/50 chance. Once the scales tip one way or the other, the EUR/USD pair will break out of the flat range – either towards the 1.8-figure level, targeting 1.0900, or towards the 1.6-figure level, aiming for1.0620 (the middle line of the Bollinger Bands indicator on the MN timeframe).
It is clear that U.S. inflation data is capable of tipping the scale one way or the other. The key report of this week (and possibly the month) will be released on Tuesday – at the start of the U.S. session. The latest figures will either strengthen the dovish expectations regarding the Federal Reserve's future course of actions or bolster the hawks' positions, who are already advocating against rushing with monetary easing.
It's crucial that preliminary forecasts indicate a slowdown in inflation in January. However, experts predict a sharp decline compared to December, and this could theoretically work in favor of the U.S. dollar if the report ends up in the "green." Market players expect a dip in the Consumer Price Index (CPI) from 3.4% to 2.9% YoY. This is the slowest growth rate since April 2021. It's worth noting that inflation has been accelerating in recent months, so such a sharp drop could exert significant pressure on the dollar. However, an alternative scenario cannot be ruled out. If the overall CPI slows down but remains above the 3.0% mark (it grew by 3.4% in December), the dollar may strengthen its positions across the market (even despite the actual decrease in the CPI).
The core index, excluding food and energy prices, has been consistently declining for the past nine months. In December, it stood at 3.9% on an annual basis. According to forecasts, the Core CPI will decrease again in January – this time to 3.8% (the lowest level since June 2021). If this indicator also ends up in the "green" (even if it remains at the previous month's level), dollar bulls may organize a mini-rally, which can push the EUR/USD pair towards the 1.6-figure level.
Overall, there is no doubt that this inflation report will trigger strong volatility in the EUR/USD pair, as several Fed officials have tied the fate of interest rates to the dynamics of key macroeconomic indicators. For instance, Dallas Federal Reserve Bank President Robert Kaplan said last week that there is no urgent need to cut interest rates, even with progress in reducing inflation. He believes that the central bank needs inflation data to confirm that this progress is sustainable. Many other Fed officials, including Richmond Fed President Thomas Barkin, Minneapolis Fed President Neel Kashkari, and Federal Reserve Board of Governors member Lael Brainard, have voiced similar positions over the past two weeks.
Therefore, Tuesday is a crucial day. The inflation report can push the EUR/USD pair out of the 1.7-figure range, especially if the latest figures differ from consensus estimates (especially in the case of inflation acceleration). Given the high degree of uncertainty, it is currently advisable to maintain a wait-and-see position on the pair. The pair could move either up or down.