The ECB day is here, and the market participants hardly wait to see what the central bank’s reaction to the latest events is. Make no mistake, the Euro pairs are coiling for a move – since last week’s closing, the EURUSD sits more or less at the same level, waiting for guidance.
And guidance it will receive today, as the ECB finds itself in a tight spot. Low inflation, higher currency, lower inflation expectations are only a few things the ECB must address today, with the bias being towards a dovish message.
Will the ECB Deliver a Dovish Message?
Even if the ECB will deliver a dovish message, it is not a recipe for a lower Euro. The initial market reaction always depends on the positioning ahead of the event, while the true impact usually appears in the following days.
Record low core inflation in the Euro area is something the ECB cannot ignore. 0.4% is far away from the 2% ECB target, making it exceedingly difficult for the ECB to meet its price stability mandate of creating inflation below, but close to 2%. 0.4% is by no means close to 2%. The typical way to lift inflation is to deliver rate cuts and/or more easing.
However, how can the ECB do that when the deposit facility rate is already below zero for several years now? Or, when the other two interest rates it sets, the marginal facility rate and the repo rate, are close to the zero level and barely positive? Or, when there is always an APP and a PEPP program in place that guarantees more quantitative easing in the foreseeable future? Tough to say how the central bank will ease some more and this is one of the reasons why many market participants view the central bank as being “cornered” ahead of today’s decision.
The EURUSD moves with the 1.20 in sight. Yes, it corrected below 1.18 following ECB’s verbal intervention, but it only found buyers on every dip.
A higher currency puts further pressure on inflation. The recent rice during the pandemic months translates into the core inflation dropping another 0.2% in the months ahead, threatening to break the zero level.
Will the ECB remain insensible to such threats? If not, how will it react? We will find out in a few hours from now.