ECB rate cut timeline key factor for euro forecasts in 2024

EUR/USD outlook hinges on ECB rate cut timeline

The euro to dollar pair, currently trading below the $1.10 mark, is continuing to be influenced by investor expectations of impending interest rate cuts in the Eurozone.

On December 19, Bank of France Governor Villeroy de Galhau hinted at a potential rate reduction next year, with the objective of restoring inflation to 2% by 2025 at the latest. "We had to raise interest rates to tackle the inflation disease. [...] Between this rise that, barren any surprise, is over, and the lowering that should occur some time in 2024, there is a plateau," Villeroy said.

Bank of Greece Governor Stournaras, however, has taken a more stringent stance, asserting that inflation must stay below 3% by mid-next year before considering a reduction in borrowing costs.

Last week, sources revealed to Reuters that ECB policymakers don't expect to change their stance on the need for high interest rates before March, making a rate cut unlikely before June.

At its final policy meeting of 2023, the European Central Bank (ECB) stood firm, in contrast to the surprisingly dovish Federal Reserve. The ECB opted to leave interest rates unchanged and did not even hint at a potential reduction.

“Should we lower our guard? We asked ourselves that. No — we should absolutely not lower our guard," ECB President Christine Lagarde told a news conference after the decision. "We did not discuss rate cuts at all. No discussion, no debate”, the official said.

The stance was in sharp contrast to last week’s FOMC meeting, where Fed Chair Jerome Powell signaled that the era of monetary policy tightening in the U.S. is likely over, and discussions about reducing borrowing costs are now coming “into view”. The Fed is "not likely" to hike further, Powell said, adding that the central bank is "very focused on not making the mistake of keeping rates too high for too long”.

The Fed’s messaging was interpreted as “unambiguously dovish” by one analyst. Markets are now pricing in various levels of interest rate cuts in the U.S. next year — some investment banks, such as UBS, are forecasting as much as 275 basis points (bps) of reductions, while Goldman Sachs has a more conservative view of 50 bps.

Interest rate differentials between the two economies are an important factor for the euro to dollar exchange rate, along with economic growth, relative productivity and other considerations. In October, the International Monetary Fund forecasted a 1.5% growth rate for the U.S. economy in 2024, compared to 1.2% for the eurozone and 4.2% for China.

Although inflation in the eurozone decreased to 2.4% in November, economists anticipate the possibility of price pressures resuming at the end of this year, which will have an impact on the ECB’s interest rate outlook in the following year.

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2024 euro forecasts: ING sees EURUSD at 1.15 by year-end, consensus projection at 1.11

ING’s euro forecast for 2024, outlined by Global Head of Markets Chris Turner and FX Strategist Francesco Pesole, said that the bank’s bullish view on EURUSD was hinged on the Federal Reserve easing interest rates starting in mid-2024:

“Our forecast for a higher EUR/USD next year hangs wholly on the view that the US will slow down, inflation will ease and the Fed will be able to make monetary policy less restrictive. Currently we forecast 150bp of Fed easing starting next May/June. This is premised on tighter financial conditions finally weighing enough on aggregate demand to see US growth converge on the stagnant trajectories, especially in Europe.

Our team forecast US growth at just 0.5% next year versus the consensus of 1.0%. Equally, our end year 2024 EUR/USD forecast of 1.15 is slightly above the current consensus of around 1.11. In terms of timing the trajectory, our current bias is that EUR/USD strength will become more apparent from the second quarter onwards. The dollar traditionally performs well at the start of the year and with the eurozone in recession, the first quarter may be too early to see a decisive turn higher in EUR/USD”.

Euro to dollar 2024 forecast: Danske sees EURUSD at 1.05 by end of next year

A euro to dollar forecast issued by Danske Bank on December 21 said that interest rate cuts will not have a big impact on the EUR/USD carry trade. Carry trading is a strategy that typically involves borrowing in one currency with low interest rates and investing in currencies with higher interest rates, making a return roughly equivalent to the difference between the two rates.

The Danske analysts were “strategically bearish” on the EUR to USD pair, saying:

“It looks like carry on EUR/USD will stay around the current level next year, but the re-pricing of EUR/USD FX forwards since before the summer serves as a reminder of how quickly things can change.

Before the summer, the outlook for the US economy was grimmer and the market expected the Fed to cut much more than the ECB in 2024, which would reduce carry to around 1%. If the outlook deteriorates again, pricing of EUR/USD FX forwards will likely follow.

We are strategically bearish [on] EUR/USD and look for the pair to fall to 1.05 in 12M. Whether carry stays around current level or falls next year, we think there are good arguments for why EUR/USD should still drop, including relative productivity, energy terms of trade and fiscal sustainability to name the most prominent”.

Economists at Rabobank saw EUR/USD trading in a 1.02 to 1.12 range on a 12-24 month view. A research note on the currency pair on December 21 read:

“Weakness in the German economy is likely to weigh on the outlook for the EUR through the next business cycle and beyond.

We see risk of EUR/USD dipping back to the 1.05 area on a three-month view.

On a 12–24-month view, we see EUR/USD as more likely to trade a 1.02 to 1.12 range, which is well below most model based estimates of fair value, than to push back above the 1.20 level”.

At the time of writing on December 22, the EUR to USD currency pair traded around $1.10, with the common currency gaining close to 3% against the greenback year-to-date.

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Past performance is not indicative of any future results. This information is provided for informative purposes only and should not be construed to be investment advice.