- The ECB rate-setting meeting dominates this week’s busy schedule
- Market split between a dovish 25bps rate hike and a hawkish pause
- Decision will be announced on Thursday 12.15 GMT, press conference at 12:45 GMT
All eyes are on Thursday’s ECB rate meeting
The ECB holds its sixth rate-setting meeting for 2023 with the market mostly split on its outcome. The probability assigned for the tenth consecutive rate hike has varied greatly over the past 40 days and it is currently standing at 57% for a 25bps move. The battle between the hawks and doves has intensified recently as the upcoming “round table” discussion is expected to be extremely heated regarding the ECB’s next move.
Scanning through the economic data one can reach two unbiased conclusions: (1) the euro area continues to experience very weak growth, and even negative growth as in the case of Germany, in 2023. In the meantime, the forward-looking indicators are equally bleak.
And (2) the inflation rate remains elevated with the August CPI figures holding a small negative surprise for the doves as the euro area aggregate headline annual figure accelerated, instead of recording another drop. Additionally, the recently published ECB Consumer survey showed 12-month expected inflation at 3.4%, and the 3-year inflation expectation rising to 2.4% from 2.3% in June 2023. Most hawks appear to be extremely uncomfortable with these figures.
Price stability is ECB’s only target
Contrary to the Fed’s dual mandate, the ECB has one target: price stability in the medium term. This is engraved in the ECB’s DNA despite the diverse comments from the various ECB members hitting the airwaves since the Jackson Hole gathering. The hawks, most notably Wunsch, Knot and Nagel, are clearly supporting another rate hike on Thursday. On the flip side, the ECB doves are gaining momentum from the recent disappointing growth figures and hence probably feel confident that they have the votes to block a 25bps move at the meeting.
Crucially, we will also get the ECB staff projections on Thursday. The inflation figures will be under the spotlight as the June 2023 projections showed headline euro area inflation and its core subcomponent slowing to 2.2% and 2.3% YoY respectively by 2025. The new projections will play a crucial role in the ECB discussions, especially if the inflation figures are not revised lower and thus pointing to the need for further monetary policy moves.
Dovish hike or hawkish pause?
As per usual, the behind-closed-doors bargaining will dominate the ECB meeting. The two most likely outcomes appear to be a dovish hike and a hawkish pause. The hawks would clearly prefer a rate hike but could eventually settle with a pause that is accompanied by a hawkish statement, along the lines of president Lagarde’s appearance at the Jackson Hole gathering, and an accelerated reduction of the various support programmes holdings, and predominantly the PEPP.
In addition, the hawks are aware that the stance of the ECB members voting at the October meeting is much more hawkish leaning. This means that they could push for an October rate hike if the data continues to support their case.
On the other hand, the doves could begrudgingly accept the above “deal” in their attempt to avoid another rate hike, but clearly express their concerns on the impact of the already elevated bond yields across the periphery. At the end, a compromise will be reached, and a common statement will be prepared, keeping everyone happy.
Euro trying to maintain some of its 2023 gains against dollar
After a difficult August of strongly underperforming against the dollar, the euro is anxiously waiting for the ECB meeting outcome. Considering the very weak growth outlook, a possible rate hike could only provide short-term relief to euro bulls as the market is ready to accept that the ECB has probably concluded its rate-hiking cycle, thus removing the euro’s main tailwind. A possible move higher in the euro-dollar pair could meet strong resistance at the busy 1.0825-1.0941 range, while the path lower looks clear until the 1.0571 area.
