ECB Meeting Preview: Dovish hold expected


The ECB meets this Wednesday and the market is expecting no policy changes in interest rates and forward guidance. This comes on the back of last month’s meeting where Mario Draghi showed more of his hand than expected and stunned markets by halting plans to normalise policy and delaying a rate increase until 2020. The subsequent growth shock and move lower in global bond yields with the US curve inversion and the German 10-year yield dropping below zero for the first time since 2016 will at least make for an interesting press conference at 12.30 GMT.

ECB Governing Council is split

The recent minutes for March’s meeting showed concerns about ongoing downside risks with growth expectations overly optimistic and that low growth would negatively impact on the ability to bring inflation back to the 2% target. There were also noticeable divergent views on the Governing Council with some arguing that guidance for steady rates should be pushed back into Q1 2020.

Downside risks remain

This month’s meeting should see the ECB reaffirm its recent assessment of the economic outlook, including the downside risks to activity from geopolitics and trade. As we mentioned in the Week Ahead, there have been some green shoots elsewhere in the wider global economy, but Eurozone macro indicators have been mixed. For example, core inflation dropped to 0.8% year-on-year in March, but we note there is considerable volatility around Easter so a rebound is expected from next month.

Low inflation expectations

In truth, it is a number of international developments which have also caused a shift in the ECB’s stance, including the Fed’s volte-face and Brexit risks. In turn, renewed concerns have re-emerged over disinflationary pressures and the related shift in long-term inflation expectations to near record lows. This has resulted in the interest rate markets scaling back chances of a rate hike, and even starting to price in a rate cut.

Too early for new measures

There is much chatter in the markets about new policies, but it is probably too early in our view for any announcements on additional easing measures at this meeting. We think June, when the new ECB staff forecasts are published, is the most likely time to announce more details on the new financing operation (TLTRO-III), while tiering could come in September, though only if conditions deteriorate further. This latter new initiative is especially important for traders as it will effectively signal lower rates for longer, which would see strong selling in the single currency.

Mario Draghi will no doubt face questions on these topics during the press conference, so market participants will be hanging on his words for any hint at the timing and finer details of these measures.

Impact on EUR/USD

The market is already pricing in a negative outlook for the Eurozone with the small chance of a rate cut. So it seems the bar is relatively high for Draghi to surprise the euro negatively. In which light, risk/reward points to a slightly higher single currency, especially as we are in what looks like a corrective recovery phase now having bounced off structural lows. Near-term resistance is now at 1.1290/1.13, ahead of 1.1420/50. Fibonacci levels have assumed strong significance over the last few months in EUR/USD and the euro should remain underpinned above 1.1200, with 1.1187 acting as very strong support.

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