EUR / USD
The EUR/USD remained elevated last week, holding comfortably above the 50-day moving average at 1.1680, as the dollar was weighed down by the US government shutdown, creating uncertainty around economic data releases and Fed policy decisions. However, markets have largely shrugged off these immediate concerns.
The US Dollar Index has declined nearly 10% year-to-date, marking its worst performance since 1973, which has provided support for the euro despite Europe's own economic challenges. Foreign investors are increasingly hedging their US dollar exposure due to concerns about Fed independence, persistent fiscal deficits, and the impact of US trade policies. The Federal Reserve's recent rate cut to 4.00-4.25% and signals of further easing have narrowed interest rate differentials between the US and Europe, making dollar hedging costs cheaper for European investors. Major European pension funds and insurance companies have substantially increased their hedge ratios on dollar exposure, with some institutions moving from 20-30% hedged positions to 60-70% this year.
The ongoing shutdown could delay crucial economic data releases, such as employment figures, potentially complicating the Fed's policy decisions and creating additional volatility in currency markets. Market sentiment suggests further dollar weakness ahead as investors price in additional Fed rate cuts while questioning long-term US fiscal sustainability. However, the euro's gains may be tempered by Europe's own challenges, including recurring financial instability and relatively weaker economic growth prospects. This suggests a historically elevated EUR/USD in the coming week, although the upside is capped by muted European economic performance.
USD / JPY
The macro analysis of USD/JPY reveals significant developments centred around Japan's political landscape and monetary policy expectations. The surprise victory of Sanae Takaichi in the Liberal Democratic Party leadership election has introduced new dynamics, as her pro-stimulus stance and criticism of interest rate increases signal a potentially more dovish approach to Bank of Japan policy. Market expectations for an October BOJ rate hike have diminished following Takaichi's win, currently priced in at 16bps until year-end, creating downward pressure on the yen, which spiked to 149.32 against the dollar on Monday.
The US government shutdown has complicated the dollar side of the equation by delaying crucial labour market data and creating uncertainty ahead of the Fed's October meeting. Recent US economic indicators and rising bets on Fed rate cuts in Q4 2025 have contributed to dollar weakness.
Japanese economic indicators, including household spending and wage growth data, will be crucial in determining near-term yen movements. The interest rate differential dynamics are shifting, with the Fed potentially moving toward rate cuts while the BOJ's normalisation timeline becomes less certain under new political leadership. The combination of US fiscal uncertainty and Japan's political transition suggests increased volatility ahead for the pair in the near term.
GBP / USD
The ongoing US government shutdown and its impact on economic data releases are creating significant uncertainty surrounding monetary policy, as the Fed lacks crucial employment figures ahead of its October meeting. Despite this data vacuum, markets are pricing in a 97.8% probability of another quarter-point rate cut, supported by alternative indicators suggesting labour market weakness.
The British pound faces headwinds from this dovish Fed outlook, though the impact is somewhat muted by expectations that the Bank of England will maintain relatively higher rates to combat persistent UK inflation. The dollar's broad weakness, down 10% year-to-date and facing its worst performance since 1973, provides some support for sterling. However, structural challenges, including the UK's twin deficits and ongoing Brexit-related trade frictions, continue to weigh on the pound's longer-term prospects.
The currency pair's direction in the coming weeks will largely hinge on whether the Fed maintains its easing bias despite the data disruption, and if UK economic indicators continue showing enough resilience to justify the BoE's restrictive stance.
Weekly Economic Calendar
