EUR/USD Outlook: Dollar focus eclipses euro inflation risk

• Yield spreads remain the main driver of EUR/USD
• Dollar unease tied to Fed independence fears
• Euro inflation unlikely to shift the outlook
• U.S. jobs data looms as the bigger test

EUR/USD Outlook Summary

Directional shifts in EUR/USD have been largely driven by longer-dated yield differentials over the past fortnight rather than expectations for what either the Fed or ECB may do with interest rates in the near term, potentially limiting the market-moving clout from Tuesday’s flash euro area inflation report for August without a large deviation from consensus. For now, the bloc’s fiscal woes, centred in France on this occasion, do not appear to be denting demand for the common currency. That may reflect growing unease about the prospects for continued independence of the Federal Reserve from political pressure, keeping pressure on the U.S. dollar as we approach key economic data in the United States that could see those fears fanned further.

French Fiscal Woes Fail to Hurt Euro

EUR/USD direction is often heavily influenced by interest rate differentials, and the past fortnight has been no exception. While the pair has seen some weak relationship with Fed rate cut pricing out to June 2026 and outright U.S. Treasury yields, the strongest correlation has been with 10-year yield spreads between the U.S. and Germany, the latter often used as a proxy for euro area debt.

Source: TradingView

Of note, it has also seen a strengthening positive relationship with the spot gold price over the same period, bolstering the view that recent movements have been less about the euro and more about the dollar and its perceived safe haven status.

U.S. Event Risk Trumps Euro Area Inflation Report

If that hypothesis is correct, it may potentially limit event risk from Tuesday’s euro area inflation report without a meaningful deviation from consensus, which looks for the annual core measure to tick down a tenth in August to 2.2%. The headline rate is also seen holding steady at an annual pace of 2%, in line with the ECB’s mandate.

Unless we see a major surprise, which appears unlikely given recent form from economic forecasters, it suggests traders should place more emphasis on data and political events in the United States when evaluating directional risks for EUR/USD from a fundamental perspective.

Source: TradingView

There will be umpteen media articles about Tuesday’s ISM manufacturing PMI report for August, focusing particularly on the price measures. But my blunt assessment is it’s more likely to produce noise than signal. It’s volatile and covers only a small part of the U.S. economy, so why it gets so much attention still honestly baffles me. Traders would be better off taking their cues from the JOLTs, ADP, jobless claims and payrolls surveys this week as it’s the labour market most Fed officials are now focused on, not inflation that many believe is temporarily being boosted by tariff impacts. These reports loom as the main risk events for EUR/USD in the days ahead, especially the latter.

Political Pressure Weighs on USD

Where it will get tricky for traders is deciphering what to do if the data comes out strong, questioning the need for 100bp of rate cuts that markets have priced from the Fed by June next year. U.S. President Donald Trump clearly wants vastly lower interest rates and is manoeuvring to appoint Fed officials who deliver accordingly. But if the data comes out hot at a time when inflationary pressures are already showing signs of reaccelerating, political pressure to cut rates regardless risks sending longer-dated inflation expectations and Treasury yields sharply higher.

Source: TradingView

Even though the correlation analysis above suggests such a scenario may narrow nominal yield spreads with Europe and work in favour of the U.S. dollar, when expected inflation differentials are taken into consideration, the opposite may well apply. Bond traders are first and foremost concerned about getting their capital back and being adequately compensated for the risk they’re taking on, especially when it comes to the inflation trajectory.

It’s a complex area, but as long as the risk of the Fed being compromised by political pressure remains, it may work against the dollar. Buying dips in EUR/USD looks far more appealing in the near term.

EUR/USD Bulls Eye Overhead Resistance

Source: TradingView

EUR/USD finds itself at an interesting juncture on the charts, sitting just below horizontal resistance at 1.1720 and downtrend resistance running from the July 1 swing high of 1.1320. The price has been rejected at both levels on four separate occasions over recent months, with the intersection of the two this week further increasing the importance of near-term price action.

Given how often EUR/USD has traded through 1.1720 only to be knocked back lower, to get excited about a sustained upside move it would be nice to see the price break and close above this level. That would put the July 24 high of 1.1788 on the radar for longs, with a clean break of that level likely increasing the probability of a retest of 1.1832.

If the pair cannot overcome resistance overhead, it would point to the risk of a reversal back towards support at 1.1600 where the pair has attracted constant bids over the past month. 1.1650 is a minor level located in between, as is the 50-day moving average which is currently trending higher, reinforcing the broader trend.

Momentum indicators are providing a mildly-yet-strengthening bullish signal, with RSI (14) trending higher and now back above 50 while MACD has staged a bullish crossover in positive territory and is also pushing higher.