What we can reasonably expect from the European Central Bank meeting on Thursday is to acknowledge the progress achieved in its latest economic assessment, signaling that a gradual reduction in the pace of its monthly asset purchases is indeed warranted. A similar approach could well be followed tomorrow or at the latest on the October meeting.
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There are also concerns that QE has caused a mispricing of risk – in other words, lenders have provided finance to investment projects more cheaply than they might otherwise have done, one of the causes of the last financial crisis. This environment has profound implications for markets – we now expect little movement in the U.S. curve until year -end, and only very measured ones in Europe, as the European Central Bank (ECB) strives to implement as dovish a tapering pattern as possible, which leads us to believe that equities should fare better in Europe than in the US.
Her comments served to highlight the Fed’s concern over stubbornly low inflation, causing investors to reassess the probability of another U.S. rate hike before the end of the year. That strength creates obstacles for both economic growth and inflation in the euro zone.
Although the US ISM non-manufacturing index strengthened to 55.3 for August from 53.9 previously, the figure was slightly below consensus expectations which limited any significant dollar support.
The economic data points for today include US ISM service data and the Fed’s Beige Book, which despite recent turmoil is expected to paint a solid picture of US economic activity.
There’s less optimism from the inflation front.
The ECB forecasts inflation of 1.5 per cent in 2017 and 1.3 per cent in 2018.
Curve steepening and correction euro? “We should get back to a normal monetary policy”. In addition to all of the central bank rate decisions, September also brings elections in New Zealand and Germany along with a big Brexit speech by Prime Minister May, which could be set for September 21st. According to Bloomberg news, officials may not have a complete plan until December. First of all, because the European Central Bank in December changed some technical parameters of APP. This environment also emboldens markets to believe they can lead central banks, rather than be led by them. The Euribor 3m strip curve trades 10 to 20 bps lower on tenors between 2018 and 2022. The weakish United States labour market report was not enough to stop the sell-off, and the common currency ended the week almost 1.5% off its heights in trade-weighted terms.
At the time of making the comments in Sintra, Portugal, the EURUSD closed at 1.1132.
That provided a positive backdrop for European bond markets, with German 10-year yields hitting their lowest levels in just over a week in early trade. A further reduction in bond purchases could push longer term yields again higher, especially against the background of strengthening growth. How the euro will react to Thursday’s meeting will depend very much on the line that Draghi will chose to take.
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The dollar came under renewed pressure against the yen on Monday afternoon and touched levels below 109.50, after South Korea’s defence ministry said it was still seeing signs that North Korea planned to stage more ballistic missile launches, possibly including an intercontinental ballistic missile.
