Euro Nears $1.18 Supported by Diverging ECB and Fed Policies

The euro maintained its position near $1.18 during a shortened trading week due to market holidays, marking one of its highest levels since late September and setting the stage for annual gains of about 14.7% against the dollar in 2025.

This strong performance is attributed to a clear divergence in monetary policy paths between the European Central Bank (ECB) and the U.S. Federal Reserve.

The ECB recently left interest rates unchanged, indicating that its monetary policy will remain stable in the near term. ECB President Christine Lagarde highlighted that high levels of uncertainty make it difficult to provide forward guidance on future rate moves.

In contrast, attention in the U.S. is focused on potential changes in Federal Reserve leadership, with President Donald Trump expected to nominate a new Fed chair as Jerome Powell’s term ends in May.

This has increased market expectations for a more dovish Fed stance. The Fed cut its benchmark rate by 25 basis points in December, bringing the target range to 3.50%-3.75%, and concluded a total reduction of 75 basis points over 2025 amid a slowing labor market and moderate inflation pressures. Markets are currently pricing in two additional rate cuts next year, which could put further pressure on the dollar and provide additional support to the euro moving forward.