HomeContributorsFundamental AnalysisFairly Calm Build-up to ECB Policy Meeting

Fairly Calm Build-up to ECB Policy Meeting


The Fed yesterday raised policy rates by the expected 25 bps to 5-5.25%. The job market is robust, unemployment low and inflation elevated. At the same time, the recent banking stress did result in tighter credit conditions of which the impact remains uncertain. This brought about a more neutral policy guidance. The Committee no longer formally anticipates “some additional policy firming” but it does not rule it out outright either: “In determining the extent to which additional policy firming may be appropriate to return inflation to 2 percent over time, the Committee will take into account the cumulative tightening of monetary policy, the lags with which monetary policy affects economic activity and inflation, and economic and financial developments.” In practice this means the Fed, at least temporary, hit the pause button in the tightening cycle. Markets went further and called the end. Chair Powell during the press conference pushed back against the idea of rate cuts by the end of the year, referring to expectations of inflation to decline only slowly. But markets doubled down nonetheless, pricing in about 75 bps by the end of the year. US yields were pressured lower across the curve with changes between 3 bps (30-y) to 15.6 bps (2-y). The move down was reinforced by a Bloomberg report that PacWest, another regional bank under market scrutiny, is weighing “strategic options”, including a sale. Similar headlines preceded First Republic Bank’s eventual takeover. PacWest’s share tumbled 60% in after-market trading, putting markets on edge. The dollar slid. EUR/USD came close to the YtD high of 1.1095 but eventually closed at 1.106 with most of the appreciation having occurred in the run-up to the Fed meeting. The trade-weighted index eased to 101.34. The yen was yesterday’s star performer. USD/JPY fell below 135 with the intraday move covering almost two big figures. US indices ended between 0.46% and 0.80% in the red.

Yesterday’s fall-out on Asian markets this morning is relatively limited, meaning a fairly calm build-up to this afternoon’s ECB policy meeting. Admittedly, Japan is closed for business. Money markets expect Frankfurt to ease the tightening pace and raise rates by 25 bps to 3.25%. Analyst estimates shifted from 50 bps last week to 25 bps as well, following this week’s inflation numbers and BLS. We do not think that an acceleration to 7% headline inflation and near-record core inflation of 5.6% justifies a downshift of the pace just yet. And while the BLS did reveal a significant further tightening of credit conditions, it didn’t come as a huge negative surprise. It is indeed what the ECB and its policy is aiming for. In contrast to the Fed, the ECB won’t hint at a pause anytime soon. That clearer tightening bias should both support German/European yields and the euro. EUR/USD is currently testing the YtD high. It won’t take much euro strength for a break higher. That brings 1.1274 (61.8% retracement of the 2021-2022 decline) on the radar.

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The Czech National Bank kept its policy rate unchanged at 7%. Unlike previous meetings, three (vs one) out of seven governors voted in favour of hiking rates by 25 bps. The Bank Board will wait for further data and will assess them. It will decide at its next meeting whether rates will remain unchanged or increase. The threat of inflation expectations becoming unanchored, the related risk of a wage-price spiral and expansionary fiscal policy are the key upside inflation risks. In its updated baseline scenario, the CNB expects inflation to average 11.2% in 2023 (from 10.8% in February) before falling to 2.1% in 2024 (unchanged). This suggests that real interest rates are to become distinctly positive for the first time in many years as the CNB pushes back against premature market expectations regarding the timing of a first rate cut. A stronger than expected Czech koruna in the meantime did part of the lifting, creating tighter monetary conditions. The CNB now pencils in an average EUR/CZK rate of 23.7 for this year compared to 24.5 in February. Next year, the average expected FX rate stands at 24.30. The central bank raised its GDP forecasts for this year and next from respectively -0.3% and 2.2% to +0.5% and 3%, but remains cautious on consumption and notes slowdown in growth of bank loans to households and firms. Czech swap rates added up to 25 bps at the front end of the curve yesterday with the 10-yr segment around 10 bps higher. The Czech koruna profited only modestly in a volatile risk environment and ahead of today’s ECB decision with at EUR/CZK 23.50 holds near strongest CZK-levels since 2008.

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