After the European Central Bank announced in March that its asset purchase programme will be brought to an end one quarter earlier than before, expectations for today’s meeting were elevated, especially as inflation massively overshot expectations in March while the war in Ukraine extended.
However, the statement was not as hawkish as some had been looking for as there were no new policy announcements nor any changes in tone. Most economists expected no policy action in today’s meeting given the statement was not accompanied by fresh projections, but there was speculation that the sequencing of normalisation could be altered. That is, the ECB would hint at hiking rates while the balance sheet was still expanding, thus limiting peripheral yield spreads while tightening policy across the region. There was no mention of that in today’s statement, nor was there any mention of the new emergency tools that the ECB is reportedly looking into. As the ECB maintained a cautious tone even as inflation expectations ramped up further over the last month, markets took this as a slight dovish surprise, undoing some of the hawkish pricing. Based on Overnight Index Swaps, markets now price in 30bps of rate hikes for September, down from 38bps previously, while December’s expectations sit at 55bps vs 71bps before. At the same time, EURUSD dropped to daily lows after having hovered above 1.09 throughout the day, while German 2Y bund yields also fell.
Slight dovish surprise in ECB statement sees EURUSD and 2Y Bund yields trading lower
Post press conference: Spike in Treasury yields extends EURUSD decline despite dull press conference
Some of the market reaction that occurred after the release of the statement unwound initially as ECB President Lagarde opened the press conference and emphasised that upside risks to the inflation outlook have increased. However, much more than that wasn’t given by the ECB chief in her opening speech as she focused primarily on the uncertainties in the outlook and reiterated the central bank’s optionality and flexibility while stating the assessment of the outlook is data-dependent. This is all similar language to the March meeting, except this time around, there was no hawkish surprise in the form of a policy tweak. Frankly, given how uncertain conditions are at the moment, Lagarde’s caution can be justified, but it is fair to say that markets were expecting a bit more sprinkle after the eventful March meeting.
On the question of what impact an oil and gas embargo on Russia would have on the eurozone inflation and growth outlook, Lagarde stated this would naturally have a huge impact. At the moment, this seems to be the number one risk to the outlook that markets haven’t fully priced in yet, and the materialisation of this risk would lead us to adjust our EURUSD forecasts.
All the other answers in the Q&A session of today’s press conference provided markets with little additional information as Lagarde ambiguously referred back to the ECB’s optionality and flexibility.
In terms of price action, today’s ECB meeting undeniably weighed on eurozone yields, as the statement came as a slight dovish surprise, however, market moves were exacerbated further by US rate markets. The move in US yields triggered the next leg lower in both EURUSD and German 2Y Bund yields. However, the adjustment in US Treasuries was mostly due to liquidity conditions ahead of the bank holidays. This means that investors shouldn’t draw too many conclusions from the market reaction throughout the press conference, as moves may unwind after the Easter period as liquidity comes back online. On balance, today’s meeting was a dull event, and French second-round elections are likely to be the next risk factor for EURUSD beyond developments in Ukraine.
EUR and 2Y Bund yields drop further after ECB meeting, but most of this is likely due to simultaneous price action in US rates markets due to liquidity conditions ahead of the bank holidays
Ima Sammani, FX Market Analyst