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As we approach a busy week for Central Banks the European Central Bank (ECB) rate decision has slipped somewhat under the radar as a lot of focus has been on the US Dollar and US Federal Reserve. A lot of this may be down to the continued hawkish rhetoric from the ECB which has largely been priced in making markets less sensitive to comments or data releases of late.
Markets are expecting a 25bps hike this week with futures pricing showing another rate hike in July before a pause. The ECB staff projections and comments post meeting may give us a clearer indication as to where the Central Banks goes from here, however I do not expect any significant surprises. Like many Central Banks a 25bps hike on Thursday will leave the ECB deposit rate at its highest level since 2008.
THE INFLATION CONUNDRUM AND EURO AREA RECESSION
On the inflation front the Euro Area has seen some positives of late but ECB policymakers have reiterated that there is still work to do. Headline inflation has been on a consistent downward trajectory since peaking in October 2022. The most recent print came in at 6.1%, the lowest inflation print since February 2022 with a large reason being the decline in energy prices. Underlying price pressures remain a concern in other sectors with food price inflation a particular sticking point. The ECB seem to be of the opinion that hiking till an acceptable/restrictive rate is achieved may be the smarter move rather than a pause and a return to hikes as we have seen by the Bank of Canada and Reserve Bank of Australia.
Last night, saw the Federal Reserve deliver a “hawkish pause” if you will as Fed Chair Powell reiterated the need to slowdown and assess the Economy as the Fed approaches its perceived peak rate. This should not have a huge bearing on the ECB decision today or the decisions moving forward. ECB President Christine Lagarde emphasized this previously that the ECB will keep a watch on the Fed but would make its own decisions based on the data available.
The major sticking point for the ECB moving forward is likely to be slower growth with manufacturing data of late hinting at a slowdown as consumers prioritize needs. The service sector inflation is one the ECB will likely focus on as well as the European tourist picks up pace with fear that this could further elevate prices.
Meanwhile the revise GDP data from Q1 released recently confirms the Euro Area entered into a technical recession. The Q4 and Q1 estimates were revised down from 0.1% growth to a 0.1% contraction which could put the Euro under pressure moving forward and add the ECBs plate.
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POSSIBBLE SCENARIOS AND IMPACT
Rate Hike with Dovish Tilt: a 25bps hike seems a certainty at this stage with the staff projections and overall rhetoric likely to have more sway. Whether the economic projections change following the revised Q4 of 2022 and Q1 2023 GDP data remains to be seen, but no doubt it will be a talking point. Any mention of inflation returning to target sooner than expected or further worries around growth moving forward could have dovish implications and push the Euro lower.
Rate Hike with Hawkish Tilt: a 25bps hike followed by continued concerns around core and service inflation prices with no real mention of the recent technical recession could be construed as taking a “Hawkish position” from the ECB. This coupled with any mention regarding further hikes could reignite some Euro buying in the short-to-medium term.
EURUSD from a technical perspective remain caught within a 250-pip range for the last month as it looks for clear direction. Yesterday we did have a pre-FOMC rally to the upside with EURUSD surrendering those gains since the start of the Asian session to trade around the 1.0800 handle.
Price has however broken and printed a daily candle close above the 100-day MA with the pair remaining bullish without a daily close below the 1.0680 support handle. Higher prices are still my favored medium-long term direction for EURUSD but from an intraday perspective and a ‘dovish’ 25bps hike from the ECB could push EURUSD back into the 1.0700 areas.
EUR/USD Daily Chart
Source: Tradingview, Prepared by Zain Vawda
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— Written by Zain Vawda for DailyFX.com
Contact and follow Zain on Twitter: @zvawda