G10 FX 2026 Outlook in a post-peak USD World
- The DXY is down 9.0% on a year-to-date basis in 2025 and if the dollar were to close the year at this level it would be the largest annual drop for the dollar since 2017 (-9.9%). However, all of the drop and a little more took place in H1 (-10.7%) with the dollar gaining 1.6% to date in H2.
- We see this H2 consolidation giving way and expect to see the dollar weakening by a further 5.0% in 2026 (on a DXY basis). This implies a EUR/USD end-2026 forecast of 1.2400 and USD/JPY of 146.00.
- A key fundamental assumption in our forecasts is that the Fed cuts its policy rate by more than currently priced as labour market weakness extends into next year. We also expect inflation to slow as the one-off price impact of tariffs fades from goods inflation while rental inflation falls further.
- As was the case in 2025, there will be certain US-policy flashpoints that will unfold in 2026 – some anticipated (Fed Chair pick; Supreme Court ruling-triggered change to trade policy) and some likely unanticipated.
- But global trade policy uncertainty should diminish in 2026 and the return of inflation to or close to central bank targets should help consumer confidence while fiscal policy support in the US, Europe, Japan and China should help global growth prospects, especially with the lagged effects of monetary easing reinforcing positive growth momentum. Further declines in energy prices will also support growth in Europe and Asia.
- However, geopolitical uncertainties are set to remain high acting as a drag on growth. US policies in Latin America could create uncertainties while the Russia-Ukraine conflict implications could worsen. US-China relations have improved but remain fragile while China-Japan tensions could escalate.
USD is no longer as overvalued but can still weaken further
G10 FX Outlook for 2026
USD has scope to decline further
Based on today’s trading level, EUR/USD would gain 13.5% this year if we are to close at around today’s level, the biggest annual increase since 2017 – coincidentally also the first year of Trump’s first term in office. Circumstances for the 2025 gain are quite different to 2017 however with the US economy on a weaker footing than in 2017 – in 2017 the Fed hiked rates by 75bps from 0.75% to 1.50% but of course this year the Fed cut by 75bps due to the continued evidence of a weakening jobs market. We believe it was the weaker economic conditions that resulted in global investors viewing trade tariffs more negatively this year and thus undermining the dollar in contrast to 2017 when tariffs helped to lift the dollar.
Ultimately the dollar is likely to be driven primarily by the conditions of the US economy and the direction of monetary policy and we see the FOMC cutting rates on three occasions next year – once per quarter through to Q3. The risk to that view is that the Fed will cut on four occasions and more quickly. Given the view expressed by Fed Chair Powell last week at the FOMC press conference that the NFP data is over-reporting employment by around 60k, the current run of data implies the US economy is shedding jobs. The 6mth average NFP was 17k as of November. The picture is no different in the private sector with the 6mth average run rate at 44k. Based on three years of data, the current DXY-weighted 2-year yield spread versus the US indicates a DXY level around 3.5% lower than the current spot rate at around 95.000.
The FOMC is of course divided and the divisions relate to the fact that weak employment conditions are coinciding with high, sticky inflation. Numerous dissents at FOMC meetings could well continue in 2026 but the prospects of inflation concerns easing were certainly improved following the CPI data for November. Understandably there is some scepticism over the data given there was no October data and hence the implied two-month drop in certain categories will be questioned. Nonetheless, it was our view prior to this data that one-off tariff-related price increases would likely fade in H1 2026 and that could help encourage more support for rate cuts if labour market conditions remain weak.
Chart 1: 3mth & 6mth MAVs for NFPs indicate job losses given 60k over-report of NFP
Source: Macrobond, Bloomberg & MUFG GMR
Chart 2: The US CPI data for November revealed a sharp drop in import-sensitive CPI sectors
Source: Macrobond, Bloomberg & MUFG GMR
The level of the bar for rate cuts next year doesn’t look that different to this year. Incoming FOMC voters are Beth Hammack; Neel Kashkari; Lorie Logan; and Anna Paulson. They will replace outgoing voters Susan Collins; Austan Goolsbee; Alberto Musalem; and Jeffrey Schmid. This switch looks like two clear hawks (Goolsbee & Schmid) being replaced by two probable hawks (Hammack & Kashkari). The dots that showed 6 votes pitching for no rate cut last week could also include alternative voters from 2027 (Bostic, Barkin?) so these “silent dissents” in the dots don’t necessarily mean the bar for cuts in 2026 is higher.
Beyond the macro backdrop there are a number of potential flashpoints that have the potential to reinforce dollar selling momentum or at least point to the potential for adding to the negative risk premium for the dollar. The decision on the Fed Chair is one and how that decision, once made, shapes investor expectations over the future reaction function of the Fed. Kevin Hassett remains the favourite but doubts have emerged given the White House is running another round of interviews. Whether Hassett, Waller, or Warsh is chosen, the likelihood is that the new Chair will be more aligned with Trump’s views and will push more forcefully for fundamental change at the Fed that will inevitably shape investor expectations that the Fed will align more toward policies to fuel growth over price stability rather than the current symmetric policy approach. This would give momentum to the US yield curve steepening which tends to coincide with a weaker dollar. If the Supreme Court rules in favour of Trump being able to fire Lisa Cook these perceptions will only be further reinforced. Fed independence being threatened will certainly be a theme in focus in 2026.
The other big potential flashpoint is the Supreme Court ruling on the legality of using IEEPA for implementing reciprocal tariffs globally. Based on the questions asked by the judges in oral hearings we are assuming the Supreme Court rules against the Trump administration. This will inevitably create renewed uncertainties over global trade tariff policies as the Trump administration seeks to implement a Plan B. Section 201 (15% tariff permitted for up to 150 days to protect the US economy from excessive trade deficits) is one probable choice. Whatever is decided, the ruling would require US companies being paid back import tariff payments and will create a whole new round of uncertainty for US companies which we view as being net dollar negative.
Chart 3: DXY-weighted 2-year spread versus the US implies 3.5% weaker US dollar risk
Source: Macrobond, Bloomberg & MUFG GMR
Chart 4: Steepening 2s10 us yield curve will exert downward pressure on USD
Source: Macrobond, Bloomberg & MUFG GMR
ECB on hold should see rate spreads move further in favour of EUR as the Fed cuts by more than priced
EUR/USD upside potential intact
We expect the ECB to remain on hold throughout 2026 which provides compelling reason for a higher EUR/USD on relative front-end yield moves given the Fed is set to cut by at least three times, and more than priced. The ECB meeting this week maintained its key message of monetary policy being in “a good place” and has been taken on board by market participants. The OIS curve for 2026 is close to flat.
The ECB forecasts provided were more on the hawkish side with real GDP growth forecasts revised higher (0.2ppt this year and next to 1.4% and 1.2%) and headline inflation (0.2ppt next year to 1.9%) and GDP growth in Germany should act as a key support next year. The Bloomberg consensus shows German GDP picking up from 0.3% this year to 1.0% next year fuelled by fiscal spending under the EUR 1 trillion infrastructure and defence spending plan.
We see inflation risks skewed to the downside and hence the risk to the ECB outlook is skewed to a cut. Growth is set to remain stable at a moderate rate, leading indicators of wage growth (Indeed) are pointing to price stability, EUR appreciation will prove disinflationary while energy prices are set to drift modestly lower. These factors all point to lower inflation that will help support consumer spending. While a peace deal between Russia and Ukraine is not incorporated into our rates and FX forecasts, if it were to materialise it would be a significant positive for Europe that would likely see an overshoot to our year-end EUR/USD forecast of 1.2400.
Finally, we see bullish momentum for EUR/USD from increased central bank appetite for the euro. Appetite has long been depressed – really ever since the GFC due to the debt crisis, the start of negative rates, Brexit, then covid followed by the Russia-Ukraine war. While the war continues, the end of negative rates and the reaching of capacity to diversifying into smaller currencies means the euro will likely become a viable option once again. If central banks continue to slowly move away from the dollar, the euro is much better placed to take advantage over the coming years. The OMFIF / Global Public Investor 2025 Survey revealed plans for increasing holdings of the euro amongst global reserve managers.
Chart 5: Euro Stoxx cyclicals performance has helped support EUR – macro support should remain in 2026
Source: Macrobond, Bloomberg & MUFG GMR
Chart 6: 16% of central banks plan to increase EUR holdings in next 12-24mths
Source: OMFIF; Global Public Investor Survey 2025
JPY subject to downside risks heading into 2026 but should recover when confidence in domestic policy improves
JPY downside risks should fade
We are forecasting yen recovery in 2026 but we must stress that the nearer-term risks remain skewed to the downside. We see the current policy mix in Japan as increasingly unjustified and incompatible with a yen rebound and therefore our assumptions imply greater efforts from the government to alter the perceptions in the financial markets that the economic plans centre on pursuing ‘reflationist’ policies. The fiscal package announced in November has damaged confidence that inflation will move lower which is fuelling long-end JGB and yen selling. The BoJ policy announcement today has done nothing to alter those fears. It is concerning that on a day when the BoJ hiked rates (as expected) and clearly signalled further hikes ahead that USD/JPY has surged by over 1%. The 2s10s and 2s30s JGB spreads have widened today and curve steepening on the day of a BoJ rate hike indicates investors do not believe policy actions are forceful enough.
BoJ Governor Ueda provided clear signals of additional rate hikes given the view expressed that “real interest rates will continue to be significantly negative even after the policy rate change”. But there was no sense of increased urgency and hence the current gradual cautious approach to rate hikes will continue. Investors clearly view that pace of tightening as potentially not fast enough. Only “some” members of the BoJ policy board expressed a view of a need to watch yen FX moves while Governor Ueda stated that the rate hikes to date “haven’t had strong tightening effects”. Despite this lack of tightening impact, the gradual cautious approach is set to continue.
We see increased dangers that investors could force a change in strategy from the government. Foreign investors have been the main consistent buyer of super-long JGBs and if foreign investors turn away and domestic investors remain side-lined it could result in a disruptive sell-off and sharp spike in longer-term JGB yields. A near-term test comes on 26th December when we get confirmation from the government on budget details including departmental spending. Spending requests have already been made and usually actual spending in the budget is less than originally requested. If the Takaichi government grants spending at or close to requests it will fuel ‘reflationist’ fears and create JGB instability. FX intervention could be required to halt yen selling given the FX response today and the fiscal risks into year-end.
All that said, as 2026 unfolds we suspect that the conditions for a retracement back lower in USD/JPY should materialise. Hedging costs for Japanese investors with USD-investments should come down based on our Fed views while we expect the BoJ to hike twice next year. This decline in hedging costs should be enough to see greater hedging-related dollar selling. The lower US yields go, the greater the chance that the yen could see its safe-haven status revived. This would especially be the case if inflationary risks recede further globally and in Japan specifically. If momentum turns, expectations will slowly start to shift, leading to behavioural changes and greater appetite for buying the yen. That would likely mean Japan’s huge, record current account surplus (investment income, not trade) starts to be converted to yen to a greater degree than what we have seen in recent years. But included in that recovery must be steps to reduce the current level of fiscal risks. Our own short-term USD/JPY valuation model is showing an extreme divergence relative to the current spot rate that informs us that the scale of negative risk premium in the yen related to fiscal risks is substantial.
Chart 7: Foreign investors the big buyer of super-long JGBs in 2025. Will that continue in 2026?
Source: Macrobond, Bloomberg & MUFG GMR
Chart 8: MUFG short-term valuation model implies large yen negative risk premium
Source: Bloomberg & MUFG GMR
Domestic political risks could reinforce GBP weakness
BoE rate cuts & domestic political risks are main headwinds for GBP
The GBP has underperformed relative to other European G10 currencies in 2025. EUR/GBP has trended higher for most of the year after establishing lows between 0.8200 and 0.8250 in late 2024/early 2025. This move has ended the two-year downtrend that persisted through 2023 and 2024. We expect the GBP to weaken further against the EUR, with EUR/GBP rising closer to 0.9000 in 2026. The last time EUR/GBP traded at those levels was in the aftermath of the negative fiscal shock from Liz Truss’s mini-budget between September 2022 and February 2023. In contrast, the GBP should hold up better against the USD given our outlook for broad-based USD weakness.
Our forecast for a weaker GBP against the EUR reflects two main drivers. Firstly, we expect the Bank of England (BoE) to continue loosening monetary policy in 2026, while the ECB is likely to keep rates on hold. The narrowing yield differential should erode the carry appeal of the GBP. The BoE signalled yesterday that it plans to slow the pace of rate cuts as the policy rate approaches neutral. After delivering four quarterly cuts in 2025, we expect two or three additional cuts in 2026, bringing the policy rate closer to 3.00%. Concerns over persistent inflation risks in the UK should ease further amid a loosening labour market. Headline inflation is set to move back toward the BoE’s target during the first half of next year, partly due to government Budget measures. Slowing wage growth would give policymakers more confidence to lower rates further.
Secondly, the GBP is likely to be undermined by renewed fiscal and political risks. The recent Budget was well received by the gilt market and helped dampen speculation of an immediate leadership challenge within the Labour Party. However, these risks are likely to resurface in the first half of next year ahead of local elections in May. A poor Labour party performance could embolden potential challengers to Prime Minister Keir Starmer. A leadership contest could trigger GBP selling, reflecting fears that a more left-leaning candidate—such as Manchester Mayor Andy Burnham or former Deputy Prime Minister Angela Rayner—might become the next prime minister. This could heighten concerns over the Labour government’s tax-and-spend policies at a time when the fiscal deficit remains unusually elevated during an economic expansion, at around 4.5% of GDP. Political developments have the potential to spark a period of heightened GBP volatility.
Chart 9: BoE & ECB policy differential to narrow lifting EUR/GBP
Source: Macrobond, Bloomberg & MUFG GMR
Chart 10: Fiscal & political risks could intensify in 2026 reinforcing GBP weakness
Source: Macrobond, Bloomberg & MUFG GMR
CHF strength to ease but SNB may still need to take action to weaken
Easing of geopolitical risks & SNB pushback to dampen CHF strength
The CHF has been the second-best performing G10 currency in 2025, strengthening sharply by around 14% against the USD while remaining relatively stable against the EUR. This has pushed USD/CHF down toward the 0.8000 level, compared to more range-bound price action for EUR/CHF, which has traded between 0.9200 and 0.9500 for most of the year. The CHF has benefited from a loss of confidence in U.S. policymaking, driven by heightened trade policy uncertainty and the Trump administration’s repeated attacks on the Fed’s independence, which have raised concerns about upside inflation risks. While those inflation risks have not yet materialized as feared, market participants will closely monitor whether changes at the Fed next year shift policy focus more towards boosting growth over inflation, which could favour further CHF strength against the USD.
Conversely, upward pressure on the CHF could ease if geopolitical risks in Europe diminish. Recent talks between Russia, the U.S., and Ukraine to end the conflict have shown progress, with signs that both sides are willing to compromise to reach a peace deal. President Trump stated, “I think we’re closer than we have been ever” to a peace agreement, with about 90% of issues between Russia and Ukraine reportedly resolved—a view echoed by German Chancellor Merz, who sees a “real chance for peace.” These developments encourage cautious optimism that the nearly four-year war could end next year. A reduction in geopolitical risk would strengthen Europe’s economic recovery and soften demand for the CHF. It could also trigger another leg lower for European energy prices as the negative shock from the Ukraine conflict continues to fade. Lower inflation, looser ECB policy, and Germany’s shift toward fiscal easing are already expected to support stronger European growth next year. This underpins our outlook for the ECB to keep rates on hold in 2026, while the SNB faces greater pressure to loosen policy further.
Inflation in Switzerland is expected to remain well below the SNB’s 2.0% target. Although the SNB is reluctant to return rates to negative territory, it may be forced to act if CHF strength persists and oil prices continue to fall next year. If the CHF remains strong, pressure will mount on the SNB to reintroduce negative rates and/or intervene to weaken the currency. This would make the CHF more attractive as a funding currency if financial market volatility remains low and global growth picks up.
Chart 11: CHF has continued to strengthen encouraged by US policy uncertainty
Source: Macrobond, Bloomberg & MUFG GMR
Chart 12: Big inflation undershoot & strong CHF keep presure on SNB to respond
Source: Macrobond, Bloomberg & MUFG GMR
CAD to recover gradually from weak levels but downside risk from trade uncertainty could return
Worst of trade shock is over for CAD but USMCA trade review still looms
The CAD has underperformed alongside the USD in 2025. At its weakest point, USD/CAD hit a high of 1.4793 in February and then climbed back above the 1.4000 level between October and November, reflecting investor concerns over the negative impact on Canada’s economy from trade disruptions with the U.S. triggered by President Trump’s tariff hikes. Canada’s economy was initially hit hard by heightened trade policy uncertainty and tariffs, contracting sharply by -1.8% in Q2, while employment fell by -106.3k in July and August. However, the economy has since rebounded more strongly than expected, suggesting that the worst of the trade shock has passed. Economic growth will gain further support in 2026 from lower rates, looser fiscal policy, and potential positive spillovers from stronger U.S. demand driven by fiscal stimulus stemming from the One Big Beautiful Bill. Recent positive developments have reduced pressure on the BoC to cut rates further. The policy rate is already at the bottom of the BoC’s estimated neutral range of 2.25% to 3.25%. The BoC delivered more front-loaded cuts than the Fed during the current easing cycle, but in the year ahead, we expect the Fed to play catch-up, narrowing the yield differential and encouraging CAD strength. This supports our forecast for USD/CAD to return to the 1.3200–1.3800 trading range that prevailed before President Trump’s election win in late 2024.
However, upside potential for the CAD could be curtailed by renewed trade policy uncertainty in 2026. USD/CAD may remain closer to 1.4000 during the first half of next year ahead of the scheduled USMCA review starting on 1st July. The Free Trade Commission will decide whether to extend USMCA through 2042, trigger annual reviews, or allow it to expire in 2036 if no consensus is reached. This review could create renewed trade tensions between the U.S. and Canada, especially if the Trump administration pushes for terms more favourable to the U.S., adding to market uncertainty and volatility. We also remain concerned about downside risks for the CAD from the ongoing decline in oil prices, which have fallen by a further 20% this year. We expect oil prices to remain under selling pressure in 2026 due to excess supply conditions, acting as a headwind for CAD strength.
Chart 13: CAD has weakened to provide offset for negative trade risks in Canada
Source: Macrobond, Bloomberg & MUFG GMR
Chart 14: USD/CAD has been tightly linked to Fed-BoC policy differential
Source: Macrobond, Bloomberg & MUFG GMR
SEK is unlikely to perform as well as in 2025 but should still outperform NOK
SEK better placed to strengthen further than NOK
The SEK has been the best-performing G10 currency in 2025, recording an outsized gain of around 19% against the USD. It has also outperformed the other Scandinavian currency, NOK, pushing NOK/SEK back toward the lows last seen in early 2020 when the COVID shock first hit the global economy. We expect Scandinavian currencies to strengthen further in 2026, although upside will be more modest as they are no longer deeply undervalued. These currencies continue to benefit from improved risk sentiment toward Europe, initially triggered by Germany’s significant shift to looser fiscal policy. European economic growth has since surprised to the upside, demonstrating resilience despite trade disruptions from President Trump’s tariff hikes. Global growth has also shown similar resilience. Additionally, Scandinavian currencies are well positioned to benefit if fiscal risks become a bigger market focus in the year ahead, given Norway and Sweden’s relatively healthy fiscal positions compared to rising public debt elsewhere.
The external backdrop is proving particularly supportive for the SEK, given Sweden is small and open economy. There are encouraging signs that Sweden’s recovery is strengthening heading into 2026, with growth expected to accelerate to around 2.5% after averaging closer to 1.0% in recent years. Sweden’s plans for looser fiscal policy, including lifting defence spending to 2.8% of GDP, will provide further support. In light of these developments, the Riksbank has indicated that its policy rate will remain at the current level of 1.75% “for some time to come.” Below-target inflation should curb expectations for rate hikes as early as next year. We expect EUR/SEK to fall further to 10.500 in 2026.
At the same time, the SEK is likely to continue outperforming NOK in 2026. Unlike the SEK, NOK upside has been constrained by the ongoing decline in oil prices. NOK underperformance would deepen if oil prices fall further next year in response to the global supply glut. The International Energy Agency (IEA) forecasts that global oil supply will exceed demand by 3.815 million barrels per day in 2026, representing a record surplus. Additionally, cyclical momentum and central bank policy divergence point toward further NOK weakness against SEK. Norway’s economy is expected to slow under the Norges Bank’s more restrictive policy stance. The Norges Bank has kept rates higher for longer to rein in inflation and currently plans one or two cuts in the year ahead. With the Riksbank set to keep rates on hold, narrowing yield differentials should favour a stronger SEK.
Chart 15: SEK has staged an impressive rebound but room for further upside should be more modest in 2026
Source: Macrobond, Bloomberg & MUFG GMR
Chart 16: NOK upside has been curtailed by the ongoing adjustment lower for the price of oil
Source: Macrobond, Bloomberg & MUFG GMR
AUD & NZD to perform better in 2026
Global backdrop & central bank policy shifts provide more support AUD & NZD
The AUD and NZD have underperformed compared to other G10 currencies in 2025. The NZD’s weakness has been more pronounced, as it has only strengthened by 2–3% against the USD while the dollar index has fallen by around 9%. This divergence pushed AUD/NZD to a high of 1.1636 in November—the highest level since 2013. The NZD has been hit hard by the RBNZ’s aggressive policy easing. The RBNZ has lowered its policy rate by 3.25 percentage points during the current easing cycle that began in August 2024—the largest amount of cuts delivered by any G10 central bank. The pace of easing even accelerated in autumn when a larger 50bps cut was implemented, reinforcing NZD selling. These actions were aimed at supporting growth in New Zealand, which is on course to stagnate for the second consecutive year in 2025. The economy contracted in three of the last seven quarters through Q3 2025, lifting the unemployment rate above its COVID-era peak.
However, there are growing signs that New Zealand’s economy will strengthen in 2026. Business confidence has just hit a 30-year high, supporting forecasts for growth to rebound above 2.0%. This improvement has given the RBNZ confidence that the policy rate does not need to be lowered further and is likely to remain at current levels for some time. Domestic developments should create a more supportive backdrop for the NZD to recover from weaker levels in the year ahead. We expect NZD to rise up to 0.6000 in 2026.
The RBA has also paused its rate-cut cycle after lowering the policy rate to 3.60% in the summer. Since then, the RBA has become more concerned about tighter-than-expected labour market conditions and inflation moving further above its 2.0–3.0% target range, reaching 3.8% in October. This has even prompted the RBA to signal that it may consider hiking rates if higher inflation persists. Based on recent guidance, a rate hike could be delivered as early as Q2 next year, which would reinforce our bullish outlook for the AUD. We expect AUD/USD to rise up to 0.7000 in 2026.
Both AUD and NZD should benefit from stronger global growth and higher commodity prices, which are improving Australia and New Zealand’s terms of trade. Our outlook assumes that the recent one-year extension of the US-China trade truce remains in place in 2026, and that US tariff rates could be scaled back further. A Supreme Court decision deeming EEPA tariffs illegal is one potential catalyst, although the Trump administration would likely act quickly to replicate tariffs. Furthermore, AUD performance has been strongly correlated with the CNY. We expect China to allow the CNY to strengthen more in the year ahead, supported by its record trade surplus, which could encourage a stronger AUD. If China takes more forceful action to boost domestic demand and address persistent housing market weakness, it would add to upside risks for the AUD.
Chart 17: Aggressive RBNZ easing has weighed heavily on the performance of NZD
Source: Macrobond, Bloomberg & MUFG GMR
Chart 18: Downside risks to global trade & growth have eased providing more support for AUD
Source: Macrobond, Bloomberg & MUFG GMR
MUFG FX FORECASTS
Source: MUFG GMR (Bloomberg consensus forecasts, FX spot & forward rates as of 19th December 2025)