ECB Doesn’t Impress The Euro

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The ECB left rates unchanged, signaling an end to QE and a 25 bps rate hike in July, as expected. The central bank added that a larger rate hike might be appropriate at the September meeting if the medium-term inflation outlook persists or deteriorates (which would be the first 50-basis-point hike in more than twenty years). The regulator also noted that inflation pressures in the Eurozone have broadened and intensified. Those remarks coupled with significant revision in inflation forecasts pushed the euro higher across the market in a knee-jerk reaction to the outcome of the meeting.

EURUSD briefly rallied to June highs around 1.0773 but failed to preserve gains and gave up initial gains. In part, the common currency was pressured by Lagarde’s remarks on the economy. In particular, the ECB Governor highlighted that near-term economic activity is to be dampened by high energy costs, with the ongoing war in Ukraine posing a big downside risk to economic growth.

Meanwhile, the USD itself dipped to 102.15 before rebounding partially, also affected by the ECB announcement through the euro’s reaction. The question is whether the common currency can receive a more sustained and robust boost from the central bank as the policy divergence with the Fed remains wide. Furthermore, the energy crisis coupled with other economic issues could prevent the ECB from more aggressive tightening despite elevated inflation.

In other words, the upcoming end to QE and the first-rate hike in over a decade is unlikely a game-changer for the shared currency that remains vulnerable to other global risks like other high-yielding assets. Now that EURUSD is back around the 1.0700 handle, trading slightly lower on the day as the New York session begins.