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EUR/USD: dollar caught in the crossfire, and the euro wonders if Angela Merkel will wish it a Merry Christmas


The EUR/USD pair tried to start the new week with growth, but was forced to go on the defensive.

Market participants drew attention to the parliamentary elections held in Germany on Sunday.

According to preliminary results, the center-left Social Democrats (SPD) won 25.7% of the vote, ahead of the conservative CDU/CSU bloc with 24.1%. The Greens received 14.8%, and the Liberal Free Democrats – 11.5%.

German Finance Minister Olaf Scholz is on his way to lead Europe's largest economy, but for this he will have to cooperate with the FDP and the Greens, who disagree on several important issues.

If Scholz manages to form a coalition, he will become the fourth post-war chancellor from the SPD after Willy Brandt, Helmut Schmidt and Gerhard Schroeder.

Meanwhile, Armin Laschet is still clinging to the possibility of becoming chancellor, even though he led the Conservatives to their worst election result in modern history.

The Greens and the Free Democrats, in turn, made it clear that they would work with any of the larger parties. This suggests that negotiations on the formation of a coalition are likely to be difficult and will take a lot of time.

Therefore, experts do not exclude that Angela Merkel may wish Germany a Merry Christmas or a Happy New Year.

On Monday, the EUR/USD pair initially rose to 1.1725, then defied the monthly lows, sinking to 1.1690, but eventually managed to recover and hovered in a narrow trading lane, changing within 10 points.

The euro may grow slightly over time if the center-left Social Democrats of Germany form a so-called "traffic light" coalition with the greens and liberal Free Democrats after an implicit victory in Sunday's federal elections, according to MUFG Bank.

"The traffic light coalition may eventually turn out to be slightly more favorable for the euro, supporting a slower pace of fiscal consolidation, which will help relieve some pressure on the ECB to maintain an ultra-soft policy," the bank's strategists said.

"Such a coalition would also potentially be more open to further modest steps to integrate the EU's fiscal policy, although more radical changes are unlikely," they added.

Meanwhile, the greenback visited the area of 93.40-93.50 again, after which it slightly reduced its initial increase. Nevertheless, the US currency still looks strong, which limits the growth of the EUR/USD pair.

"The dollar is likely to remain in the crossfire: the Fed's positions have become more hawkish, and concerns about a potential default of Evergrande have weakened," Commonwealth Bank of Australia experts noted.

Large-scale injections of liquidity from Beijing seem to have convinced investors that the Evergrande crisis will be local, not systemic.

The fact that the Chinese authorities are trying to prevent the formation of a Chinese Lehman, which would lead to a domino effect in the markets, reduces the demand for a safe dollar.

At the same time, the greenback continues to receive support from the growing yield of long-term US government bonds, which has returned to the levels of four months ago.

On Monday, the indicator for 10-year treasuries rose above 1.5% for the first time since the end of June.

The growth of US bond yields was largely facilitated by expectations about the tightening of monetary policy in the United States.

Do recall that last Wednesday the Federal Reserve announced that, most likely, it will begin to reduce its monthly purchases of bonds in November, and signaled that an increase in interest rates may follow earlier than expected.

"The only factors that keep the US central bank from tightening its policy are the budget debate in Washington and the risks of an increase in the incidence of coronavirus in winter. If these factors disappear, the Fed could begin to cut stimulus. More "tighter" monetary policy of the central bank will have a positive effect on the dollar," analysts at Deutsche Bank believe.

Currently, the EUR/USD pair is hovering around the 1.1700 level.

Obviously, bulls need to rise above 1.1755, but this looks unlikely at the current stage. Further resistance is noted at 1.1790 and 1.1830.

In the event of a breakdown below 1.1680, bears could target this year's lows around 1.1660 and then the November 2020 lows of 1.1600.

The material has been provided by InstaForex Company -