Europe is on fire. Flashpoints are breaking out in France, the Netherlands, Britain, and even in Germany. The refusal of right-wing parties to abide by the EU's 3% of GDP budget deficit rule nearly led to the resignation of the Dutch government. The National Rally in France is demanding snap elections, and investors are beginning to wonder what Germany's profligacy will bring. And how will Rachel Reeves close the budget gap in the UK—if at all? Against this backdrop, the decline in EUR/USD looks logical.

Investors are watching with alarm as yields on German and French bonds have soared to their highest levels since 2011, when a debt crisis erupted in the Eurozone. Should we expect a repeat of that grim chapter? Back then, ECB head Mario Draghi promised to do whatever it took to save the euro. The central bank stuck with monetary stimulus for a long time. Christine Lagarde's speech prompted traders to draw parallels with those past events.

The Frenchwoman stated that she is closely monitoring the spread between French and German bond yields. This key measure of political risk in Europe is steadily rising. The ECB chief's concern could prompt the central bank to act more aggressively by buying bonds within a revived QE program. Lowering rates makes little sense, as inflation in the currency bloc accelerated to 2.1% in August.

European Inflation Trends

According to Governing Council member Isabel Schnabel, the loss of Federal Reserve independence will impact not only the US economy, but the global economy as well. If the Fed becomes a puppet of the White House, expect trouble! Investors will dump Treasuries, and their yields will rise. The panic will spill over from the United States to Europe. And while Americans may be able to withstand the higher borrowing costs, Europeans likely cannot.

The Eurozone economy is already suffering from tariffs, the war in Ukraine, and a slowdown in global trade. If you add rapidly rising bond market rates to this, its future starts to look bleak. Yes, Germany has fiscal stimulus, but until those measures are implemented, a significant amount of time will pass.

The return of investor interest to the US dollar also plays a significant role in the fall of EUR/USD. The 10% drop in the greenback in the first half of the year was caused by tariffs. If they are canceled, the US economy will not suffer, and inflation won't rise. Is it time to buy the greenback? Cutting speculative net shorts on the USD index seems a reasonable choice, especially ahead of the important US nonfarm payroll data for August.

Technically, on the daily EUR/USD chart, the pair's third attempt in three weeks to break out of the consolidation range of 1.160–1.172 has failed. A firm break below 1.165 will increase the risk of a drop to 1.155 and 1.150. A return above this level will be a reason to buy.