The euro is on the rise, with the EUR/USD back at the 1.20 level due to the ECB’s bluff about asset purchases
The EUR/USD exchange rate is the most important one on the FX dashboard. As well as reflecting the economic strengths and weaknesses of the Euro area and the United States, it also reflects the differences between the two regions’ monetary and fiscal policies.
Because this currency pair weighs the most in the Dollar index benchmark for most financial market participants, everyone should pay attention when the EUR/USD moves.
EUR/USD Reflects the ECB’s Governing Council Communication Failures
The last European Central Bank (ECB) meeting was quite spectacular, with the ECB insisting it would significantly increase the pace of asset purchasing under its Pandemic Emergency Purchasing Program (PEPP). But it failed to deliver. Market participants waited for asset purchases to pick up, and they didn’t.
The euro, naturally, traded in anticipation, and the EUR/USD exchange rate — the one that matters for the ECB — fell to a 1.17 low.
In January 2021, the exchange rate was above 1.23, and the big drop pleased the ECB a lot, but the market promptly spotted the ECB bluff about asset purchases in the last couple of weeks. It suggests that hawks do exist in the Governing Council and that the communication was a compromise. Subsequently, the EUR/USD exchange rate bottomed and started to move higher from 1.17.
Although it expresses worry about tightening financing conditions, the ECB doesn’t seem worried about the recent rise in yields. It hinted that it needs to be persistent rather than temporary to affect financing conditions, which is yet another reason for the EUR/USD to push more toward the 1.20 psychological level. Furthermore, the ECB hawks fear that the positive spillover effects from the US fiscal stimulus will shift the balance of risk positively.
In summary, the euro remains bid against the dollar, and for a good reason. The ECB’s Governing Council Should improve its communication strategy before the market forces it to by pushing the EUR/USD exchange rate higher.