Euro Steady as AfD Victory and ECB Hike in Focus

The euro was little changed just above $1.16 as investors digested the far-right AfD’s victory in Saxony-Anhalt and looked ahead to the European Central Bank’s policy meeting later this week, with higher oil prices adding to inflation concerns. The AfD won 44% of the vote, falling short of an overall majority but delivering a major blow to Chancellor Friedrich Merz’s conservatives. Meanwhile, Brent crude moved closer to seven-week highs after the US struck three Iranian oil tankers over the weekend, destroying one, while Tehran threatened to establish a new restricted zone outside the Strait of Hormuz. The ECB is expected to raise interest rates on Thursday, erring on the side of caution as the US-Iran war drags on, keeping oil prices elevated and reviving inflationary pressures. Traders are also pricing in roughly a 90% probability of a second rate hike by the end of the year.

The euro weakened back below $1.16 as stronger-than-expected US employment data boosted the dollar and reinforced expectations for tighter Federal Reserve policy. US nonfarm payrolls increased by 162,000 in August, significantly surpassing market expectations for a 56,000 gain and prompting markets to price in a near 60% probability of a Fed rate hike this month. Attention is now gradually shifting toward the European Central Bank’s September 10 policy meeting. Money markets continue to fully price in a 25-basis-point ECB rate hike to 2.5% next week, while assigning an almost 100% probability that the deposit rate will reach 3% by June 2027. Such pricing implies two additional rate increases by mid-2027. On the economic data front, Germany’s factory orders rose 2.5% in July, slowing from an upwardly revised 3.7% increase in June but comfortably exceeding market expectations for a 0.3% gain.

The euro stabilized just above $1.16 on Friday as investors awaited fresh direction from US employment data due later in the day, while attention gradually shifted towards the European Central Bank’s September 10 meeting. Money markets continue to fully price in a 25-basis-point ECB rate hike to 2.5% next week, while also assigning an almost 100% probability to the deposit rate reaching 3% by June 2027, implying two further rate increases by mid-2027. On the economic data front, Germany’s factory orders rose 2.5% in July, easing from an upwardly revised 3.7% increase in June but comfortably exceeding market expectations of a 0.3% gain. Meanwhile, the dollar remained under pressure following dovish remarks from Federal Reserve Governor Christopher Waller, who said recent data showed signs of disinflation and that, if upcoming figures confirmed the trend, he would favor keeping interest rates unchanged at this month’s policy meeting.