Euro looking for direction

The euro continues to have a quiet week, as EUR/USD trades around 1.0560.

German ZEW Economic Sentiment improves

German financial experts remain deeply pessimistic about economic conditions, but there was a slight improvement in the May release, although not enough to give the euro any support. German ZEW Economic Sentiment rose to -34.3, up from -41.0 in April and above the estimate of -42.0. The drivers behind the weak ZEW assessment were the deterioration in China’s economy and the expectation that the ECB will raise interest rates in the next six months.

China is not budging from its harsh zero-Covid policy, which is exerting a heavy price, both domestically and globally. In China, most large cities are under lockdown, which has dampened economic activity and disrupted factory production. This has resulted in disruptions to global supply chains, and German companies are feeling the pain. China’s property sector hasn’t been in the headlines lately, but the severe leverage problems which have affected huge developers haven’t gone away and remain a real threat to economic stability.

The dovish ECB has been slow to respond to the new landscape in Europe, but ECB President Lagarde is no longer talking in dismissive terms about inflation, which has surged to 7.5% in the eurozone. On Monday, ECB Governing Council member Olli Rehn, head of the Finnish central bank, urged the ECB to start raising rates in July. Other ECB members are also calling for rate hikes, and it appears inevitable that the ECB will have to join the Fed and BoE and tighten monetary policy.

Another headwind for Germany (and the euro) is the war in Ukraine, with no diplomatic solution in sight. The war has taken a significant toll on Germany’s economy and there are concerns that a complete ban on Russian oil would tip Germany into a recession.  The G-7 commitment to “phase out” Russian oil is a compromise that will allow eurozone nations to find alternative sources as they cut back on Russian oil imports.

In the eurozone, the combination of rising prices and weaker economic growth has raised fears of stagnation and increased uncertainty about the economic outlook. The euro fell below the 1.05 line earlier in May and EUR/USD risk is tilted downwards, with parity a real possibility.

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EUR/USD Technical

• There is weak resistance at 1.0557. Above, there is resistance at 1.0632
• 1.0473 is providing support, followed by 1.0398

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