Hello, forex friends! The RBA and the BOC aren’t the only central banks under the spotlight this week, since the ECB will also be delivering its monetary policy statement on Thursday (September 7, 11:45 am GMT), followed by a press conference shortly after (12:30 pm GMT).
And if you need a quick recap on what happened last time and what’s expected this time around, then you better gear up by reading up on today’s write-up.
What happened last time?
- Refinancing rate maintained at 0.00% as expected
- Marginal lending rate maintained at 0.25% as expected
- Deposit rate maintained at -0.40% as expected
- QE extension until December 2017 (or beyond) at €60B per month maintained
- ECB did not remove easing bias on QE program
The ECB announced during the July ECB statement that its monetary policy was unchanged, so all rates were kept steady and the ECB’s extended QE purchases of €60B per month was affirmed.
However, contrary to expectations that the ECB will change its language on its QE program, the ECB retained its statement that (emphasis mine):
“If the outlook becomes less favourable, or if financial conditions become inconsistent with further progress towards a sustained adjustment in the path of inflation, the Governing Council stands ready to increase the programme in terms of size and/or duration.”
In short, the ECB also maintained its easing bias on its QE program, which is why the euro broadly was kicked lower initially.
However, the ECB press conference then rolled around, and while ECB President Draghi tried to sound dovish, he also effectively said that change IS coming while heavily implying that the ECB’s next move will likely be to tighten monetary policy when he said that:
“We also were unanimous in communicating no change to the forward guidance; and also we were unanimous in setting no precise date for when to discuss changes in the future.”
“In September we’ll be having the macroeconomic projections, we’ll be having staff macroeconomic projections, so there is more information that we can look at between now and then. It’s basically the sense of the Governing Council that we will have more confidence in taking a decision with more information than we have today.”
In addition to that, Draghi was also asked about his thoughts on the euro’s strength. And Draghi nonchalantly replied as follows:
“The repricing of the exchange rate has received some attention during the various exchanges of views, and in various ways. That’s been something that, just as I said, has received some attention.”
Draghi’s hints at the possibility of a future tightening move, as well as the ECB’s perceived lack of concern on the euro’s strength, opened the gates for euro bulls to charge in really hard. And as a result, the euro surged higher across the board.
So, what’s expected this time?
- No change in monetary policy expected
- Hints at future tightening unlikely but still possible
- Updated ECB staff forecasts will be released
- ECB expected to upgrade GDP growth projections
- Downward revisions for inflation forecasts expected
- ECB may try to talk down the euro
What’s expected of monetary policy?
The general consensus is that the ECB will not be changing its monetary policy on Thursday.
This is supported by Draghi’s August 25 statement at Jackson Hole that a “significant degree of monetary accommodation is still warranted.”
The Reuters report cited “four sources with direct knowledge of the discussion” at the ECB as saying that “All the signs are pointing to October. There will be little to decide on in September… and December is just too far out.”
Meanwhile, the more recent Bloomberg report, quoted unnamed “euro-area officials familiar with the matter” as saying that “changes to communication and policy [are] likely to move even slower than originally expected.”
However, these unnamed sources also said that the ECB didn’t want to surprise the market, which means that there’s still a chance that the ECB may give some hints on when it plans to tighten monetary policy.
And one way to do that is to change its language on its QE program, or even remove its easing bias completely. It remains if those reports are the real deal and if the ECB really will change its tune on its QE program, though.
How about economic forecasts?
Aside from its monetary policy decision and press conference, the ECB is also expected to release its updated macroeconimic forecasts on Thursday.
And according to economists of large banks and hedge funds that were cited in a recent Bloomberg report, the general consensus is that the ECB will likely upgrade its growth forecasts while downgrading its inflation projections.
Upgrades to the ECB’s growth projections are quite possible since Q2’s 2.2% year-on-year growth is the fastest in 25 quarters and is already beating the ECB’s central forecast of 1.9% for 2017. Although it’s still within the upper bound of the forecast range.
Meanwhile, downgrades to the inflation forecasts are also possible, at least for the headline reading.
While it’s true that the 1.5% year-on-year increase in August is a welcome development and puts average HICP at around 1.6%, which is already beating the ECB’s forecast that headline HICP will average around 1.5% in 2017. It’s also true that the increase was driven mainly by energy prices while other HICP components remained subdued.
Moreover, the ECB’s forecasts assumes “an average exchange rate of USD 1.08 per euro in 2017.” However, the actual average exchange rate so far has been higher than that and closer to USD 1.18 per euro.
And that’s the main argument used by the economists quoted in the Bloomberg report. After all, Draghi himself said a couple of years ago that “as a rule of thumb, each 10% permanent effective exchange rate appreciation lowers inflation by around 40 to 50 basis points.”
What about the euro?
As mentioned earlier, the euro’s exchange rate against the the U.S. dollar has been higher-than-expected. And that’s cited as the main reason as to why the ECB is expected to downgrade inflation expectations. After all, a higher exchange rate makes imported goods relatively cheaper, which has a negative inflation.
Moreover, the minutes of the July ECB meeting revealed that “concerns were expressed about the risk of the exchange rate overshooting in the future.”
In addition, an August 31 Reuters report cited “three sources familiar with discussions” at the ECB as saying that
“The exchange rate has become a bigger issue. It is now less favorable for an exit and a stronger argument for a muddle-through option.”
“The huge appreciation in the euro is already causing monetary tightening and is equivalent to an increase in interest rates.”
Given all that, it’s highly probable that the ECB will address the euro’s strength during Draghi’s speeches or as commentary in the ECB’s staff projections.
And even if Draghi does not mention the euro’s strength in his monetary policy announcement and his prepared speech for the press conference, it’s very likely that journalists will try to grill Draghi on that during the Q&A portion, which is something to look forward to.
The ECB is not expected to budge from its current monetary policy, so the ECB statement itself will likely be a dud and focus will quickly switch to the ECB press conference that follows shortly.
There is still a chance that the ECB statement will be a market mover if the ECB provides forward guidance on when it plans to start tightening monetary policy and/or changes its language on its easing bias on QE.
Such a scenario is unlikely, however. But if that does play out, then that will likely be seen as positive for the euro.
As for the ECB presser, traders will likely be on the lookout for what Draghi has to say about the euro’s strength, as well as any hints on the future path of monetary policy.
Also, the ECB updated projections will likely be taken into account at this time, although those rarely cause a reaction, since the market is usually more interested on what Draghi has to say.
By the way, if you want to watch the ECB presser live so that you can react in real time, you can do just that by clicking here.