Will the euro continue its upward trend in 2026? Central bank policy divergence and economic fundamentals will determine the outcome

Entering 2026, the euro’s trajectory will become the focus of the foreign exchange market. Against the backdrop of the Federal Reserve possibly continuing to ease and the European Central Bank’s policy remaining “on hold,” the EUR/USD exchange rate faces multiple forces at play.

Economic Fundamentals: European Resilience and Hidden Risks

Can Germany’s Fiscal Expansion Save the Eurozone?

The economic outlook for Europe in 2026 shows clear divergence. Germany’s announced large-scale fiscal stimulus is expected to boost the eurozone economy, but political uncertainties in France could be a drag. On the US side, there are mixed signals: US banks and Goldman Sachs are optimistic about strong US economic growth in 2026, but Moody’s downgrades the outlook, suggesting the US labor market has stagnated, and once AI dividends fade, economic downside risks will be significant.

Central Bank Policies: Increasing Divergence

ECB “Holds Steady,” Fed “Gradually Cuts Rates”

Supported by falling inflation and economic resilience, the ECB has announced the end of its rate-cutting cycle. Citibank expects the ECB to keep rates at 2% at least until the end of 2027.

In contrast, the Fed’s policy direction is set—continue to cut rates. The mainstream market view predicts Goldman Sachs, Morgan Stanley, and Bank of America forecast two rate cuts in 2026, each by 25 basis points, totaling 50 basis points for the year. However, JPMorgan Chase and Deutsche Bank are more cautious, expecting only one rate cut of 25 basis points.

This policy divergence will directly impact the US-EU interest rate differential, thereby driving volatility in the EUR/USD exchange rate.

Diverging Institutional Views: Bullish or Bearish?

Bullish Views on the Euro

JPMorgan Chase, Bank of America, and Deutsche Bank are optimistic about the euro’s prospects. JPMorgan believes that European economic growth and Germany’s fiscal expansion will support a moderate euro appreciation, with EUR/USD reaching 1.20 in Q2 2026. If US economic data underperform, EUR/USD could even surge to 1.25.

Deutsche Bank is also bullish, expecting Germany’s economic engine to restart and potential peace agreements in the Russia-Ukraine conflict to be reached, pushing EUR/USD to break above 1.20 mid-2026 and reach 1.25 by year-end.

Bearish Views on the Euro

However, Standard Chartered, Barclays, and Citibank take a more cautious stance. Standard Chartered points out risks: if Germany’s fiscal stimulus fails to boost the economy as expected, the ECB may be forced to join rate cuts, weakening the euro. They forecast EUR/USD falling to 1.13 mid-2026 and further down to 1.12 by year-end.

Barclays emphasizes that worsening trade conditions in the euro area are a foregone conclusion, with economic growth and inflation expectations facing clear downward pressure, expecting EUR/USD to fall to 1.13 by the end of 2026.

The “Rise First, Fall Later” Middle Ground

Morgan Stanley presents a complex scenario: in the first half of 2026, Fed rate cuts will narrow the US-EU interest rate differential, pushing EUR/USD up to 1.23, possibly even touching 1.30 in optimistic scenarios. But in the second half, signs of European economic weakness reappear, US resilience becomes evident, and EUR/USD will turn downward, ending the year at 1.16.

Conclusion: The Euro’s Outlook Depends on “Two Ifs”

The euro’s performance in 2026 will hinge on two key variables: first, whether Germany’s fiscal stimulus can effectively boost eurozone growth; second, whether the US economy can withstand downside risks as AI dividends fade. In this game of uncertainties, the euro has both upside potential and downside pressures. Traders need to closely monitor these policy signals and economic data, adjusting strategies flexibly.