EUR/USD Movement and ECB Insights

The EUR/USD pair climbed to approximately 1.1385 during early trading in Europe on Friday, buoyed by growing expectations of a potential interest rate hike from the European Central Bank (ECB). Later in the day, attention will shift to the preliminary Purchasing Managers’ Index (PMI) figures for July, covering the Eurozone, Germany, and the United States.

As anticipated, the ECB opted to maintain its key interest rate during its policy meeting in July, but left the door open for a possible hike in September due to surging energy prices that threaten to elevate inflation significantly beyond the 2% target.

ECB President Christine Lagarde indicated in a press conference that inflation is expected to remain “well above target” through the first half of 2027. They are particularly watchful for a potential “second inflation shock” linked to the ongoing conflict between the US and Iran. The prevailing sentiment in the market suggests that interest rate increases may resume later this year.

The ECB’s more hawkish outlook could lend some short-term support to the euro against the US dollar. Current market pricing shows a roughly 95% probability that the ECB will raise rates by 25 basis points in September, and a similar likelihood for another increase by December, according to Reuters.

Meanwhile, the US military has engaged in strikes on Iran for 13 consecutive nights, focusing on drone and coastal facilities. US President Donald Trump stated on Thursday that Iran would be held accountable for the actions of the Houthis, warning of “significant military retribution” against Iran and its allies, as reported by the Guardian. Rising tensions in the Middle East might increase the demand for safe-haven currencies like the dollar, posing challenges for major currency pairs.

Market Response to Central Bank Policy

Analysts at MUFG mentioned that, as energy prices climb, market participants are beginning to factor in more hawkish stances from major central banks including the ECB and the Federal Reserve. This shift has led to short-term yields reaching their highest levels this year. They noted that the Euro area interest rate markets anticipate two to three further rate hikes by the ECB in the coming year, while US markets are looking at approximately two hikes from the Fed in the same timeframe. They further pointed out that European short-term yields have recently risen more sharply than those in the US, indicating a shift in favor of the euro.