The euro rose slightly against the dollar during the European session on Monday (July 27), currently trading above 1.14. This followed comments from ECB Governing Council member Simkus, who stated that the likelihood of an interest rate hike remained higher than the possibility of holding rates steady. UOB adjusted its forecast accordingly, expecting the ECB to implement a final 25 basis point rate hike in September, raising the deposit facility rate to 2.50%, followed by an extended pause. However, if energy prices remain high and lead to a stronger second round of inflation, the possibility of further tightening cannot be ruled out.

The European Central Bank held rates steady in July, but its inclination to raise rates was clear.

The European Central Bank (ECB) kept its three policy rates unchanged as expected at its meeting on July 23, with the deposit facility rate remaining at 2.25%. However, comments from Governing Council member Simkus broke the calm narrative of "holding rates steady"—he explicitly stated that "the possibility of a rate hike remains higher than holding rates steady." This statement is consistent with Lagarde's earlier remarks at a press conference—some policymakers have raised the question of "whether we should act now" and pledged to closely review new data in the coming weeks. UOB interprets this as a clear signal that the ECB is inclined towards further tightening. For the euro, the significance of this signal lies in the fact that as long as market expectations for an ECB rate hike remain intact, the downside potential for the euro is relatively limited. Even though the Federal Reserve is still in its rate hike cycle, the ECB's rate hike expectations are catching up, and the narrowing interest rate differential between the US and Europe provides structural support for the euro.

After the last interest rate hike, the "pause" was extended.

UOB's core forecast revisions are as follows: A 25 basis point rate hike in September: The deposit facility rate will be raised from 2.25% to 2.50%, marking the final rate hike in the current cycle; followed by an "extended pause": The ECB will maintain the interest rate at 2.50% to assess the lagged effects of tightening policies on the economy. This forecast revision reflects the market's repricing of the ECB's policy path. Data from well-known institutions shows that traders are currently pricing in a 95% probability of a 25 basis point rate hike in September—meaning that the September rate hike has been fully priced in by the market. However, UOB explicitly points out that if energy prices remain high and lead to a stronger second round of inflation, "the possibility of further tightening cannot be ruled out." This risk warning reveals the core dilemma currently facing the ECB: the uncertainty of the energy shock makes the "end point" of the policy path unclear.

The September rate hike provided support, but energy risks remain a concern.

UOB's outlook for the euro can be summarized as follows: Short-term support: The expectation of a September rate hike will provide a floor for the euro. Even if the Fed raises rates in tandem with the euro in September, the ECB's catch-up rate hike path means the interest rate differential between the US and Europe is narrowing, which is beneficial for the euro. Medium-term constraints: The euro's upside potential is limited by multiple factors. The continued escalation of geopolitical risks in the Middle East is driving up demand for the US dollar as a safe haven; the eurozone's economic growth prospects are constrained by the dual pressures of high interest rates and energy prices; if energy prices remain high and trigger a second round of inflation, the ECB may be forced to further tighten monetary policy, which would exacerbate the risk of a eurozone economic downturn. UOB's core judgment is that the expectation of a September rate hike by the ECB provides "floor support" for the euro, but energy risks and geopolitical uncertainties limit the euro's upside potential.

The euro is seeking a balance between expectations of a September rate hike and energy risks.

UOB's outlook for the euro can be summarized as follows: a September rate hike provides support, but energy risks remain a shadow. The ECB held rates steady in July but clearly leaned towards a rate hike, and Simkus's remarks confirmed the market's pricing in a September rate increase. UOB expects a 25 basis point rate hike to 2.50% in September, followed by an extended pause – however, further tightening cannot be ruled out if energy prices remain high and lead to a stronger second round of inflation. For the euro, this means short-term support (the expectation of a September rate hike), but medium-term uncertainty (the evolution of energy risks). For traders, the September ECB meeting and the movement of energy prices will be key variables determining the euro's medium-term direction. (Euro/USD daily chart, source: FX678) At 15:44 Beijing time on July 27, the euro was trading at 1.1402/03 against the US dollar.